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SECURITIES AND EXCHANGE COMMISSION
17 CFR Parts 230, 239, 270, and 274
[Release Nos. 33-7398; 34-38346; IC-22528; S7-10-97]
RIN 3235-AE46
Registration Form Used by Open-End Management Investment
Companies
AGENCY: Securities and Exchange Commission.
ACTION: Proposed rule.
SUMMARY: The Securities and Exchange Commission is proposing
amendments to Form N-1A, the form used by open-end investment
companies to register under the Investment Company Act of 1940
and to offer their shares under the Securities Act of 1933.
The proposed amendments would revise disclosure requirements
for fund prospectuses. Among other things, the proposed
amendments seek to minimize prospectus disclosure about
technical, legal, and operational matters that generally are
common to all funds and, in keeping with the purpose of
Form N-1A, to focus prospectus disclosure on essential
information about a particular fund that would assist an
investor in deciding whether to invest in that fund. The
proposed amendments are intended to improve fund prospectuses
and to promote more effective communication of information
about funds.
DATES: Comments must be received on or before [insert date 90
days after publication in Federal Register].
ADDRESSES: Submit comments in triplicate to Jonathan G. Katz,
Secretary, Securities and Exchange Commission, 450 5th Street,
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N.W., Washington, D.C. 20549-6009. Comments can be submitted
electronically at the following E-mail address:
rule-comments@sec.gov. All comment letters should refer to
File No. S7-10-97; this file number should be included on the
subject line if E-mail is used. All comments received will be
available for public inspection and copying in the
Commission's Public Reference Room, 450 5th Street, N.W.,
Washington, D.C. 20549-6009. Electronically submitted
comment letters will be posted on the Commission's Internet
Web site (http://www.sec.gov).
FOR FURTHER INFORMATION CONTACT: Jonathan F. Cayne, Attorney,
John M. Ganley, Senior Counsel, Markian M.W. Melnyk, Senior
Counsel, David U. Thomas, Senior Counsel, Kathleen K. Clarke,
Special Counsel, or Elizabeth R. Krentzman, Assistant
Director, (202) 942-0721, Office of Disclosure and Investment
Adviser Regulation, Division of Investment Management,
Securities and Exchange Commission, 450 5th Street, N.W., Mail
Stop 10-2, Washington, D.C. 20549-6009.
SUPPLEMENTARY INFORMATION:
The Securities and Exchange Commission ("Commission") is
proposing for comment amendments to Form N-1A
[17 CFR 274.11A], the registration form used by open-end
management investment companies ("funds") to register under
the Investment Company Act of 1940 [15 U.S.C. 80a-1 et seq.]
("Investment Company Act") and to offer their shares under the
Securities Act of 1933 [15 U.S.C. 77a et seq.] ("Securities
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Act"). The Commission also is proposing technical amendments
to rules 481 and 497 under the Securities Act [17 CFR 230.481,
.497]. In a companion release, the Commission is proposing
new rule 498 under the Securities Act and the Investment
Company Act, which would permit an investor to buy a fund's
shares based on a short-form document, or "profile," that
contains a summary of key information about the fund; each
investor purchasing fund shares based on a profile would
receive a copy of the fund's prospectus with the purchase
confirmation.-[1]- In another companion release, the
Commission is proposing new rule 35d-1 under the Investment
Company Act, which would require a fund with a name suggesting
that it focuses on a particular type of investment (e.g., a
fund that calls itself the ABC Stock Fund, the XYZ Bond Fund,
or the QRS U.S. Government Fund) to invest at least 80% of its
assets in the type of investment suggested by its
name.-[2]-
TABLE OF CONTENTS
I. INTRODUCTION AND EXECUTIVE SUMMARY . . . . . . . . . .
II. DISCUSSION . . . . . . . . . . . . . . . . . . . . . .
A. Part A -- Information in the Prospectus . . . . .
1. Item 1 -- Front and Back Cover Pages . . . .
-[1]- Investment Company Act Release No. 22529
(Feb. 27, 1997) ("Profile Release").
-[2]- Investment Company Act Release No. 22530
(Feb. 27, 1997) ("Fund Names Release").
Proposed rule 35d-1 would apply to all
registered investment companies, including
funds, closed-end investment companies, and
unit investment trusts.
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2. Item 2 -- Risk/Return Summary:
Investments, Risks, and Performance . . . .
a. Investment Objectives and Principal
Strategies . . . . . . . . . . . . . .
b. Risks . . . . . . . . . . . . . . . . .
3. Item 3 -- Risk/Return Summary: Fee Table .
a. Fee Table Example . . . . . . . . . . .
b. Shareholder Account Fees . . . . . . .
c. Improving and Simplifying Fee Table
Presentation . . . . . . . . . . . . .
4. Item 4 -- Investment Strategies and Risk
Disclosure . . . . . . . . . . . . . . . . .
a. Investment Objectives and
Implementation of Investment
Objectives . . . . . . . . . . . . . .
b. Risk Disclosure . . . . . . . . . . . .
5. Item 5 -- Management's Discussion of Fund
Performance . . . . . . . . . . . . . . . .
6. Item 6 -- Management, Organization, and
Capital Structure . . . . . . . . . . . . .
a. Management and Organization . . . . . .
b. Capital Structure . . . . . . . . . . .
7. Item 7 -- Shareholder Information . . . . .
a. Purchase and Redemption . . . . . . . .
b. Tax Consequences . . . . . . . . . . .
8. Item 8 -- Distribution Arrangements . . . .
a. Placement of Prospectus Disclosure . .
b. Rule 12b-1 Plans . . . . . . . . . . .
c. Sales Loads . . . . . . . . . . . . . .
d. Multiple Class and Master-Feeder
Funds . . . . . . . . . . . . . . . . .
9. Item 9 -- Financial Highlights Information .
B. Part B -- Statement of Additional Information . .
C. Part C -- Other Information . . . . . . . . . . .
D. General Instructions . . . . . . . . . . . . . .
1. Reorganizing and Simplifying the
Instructions . . . . . . . . . . . . . . . .
2. Form N-1A Guidelines and Related Staff
Positions . . . . . . . . . . . . . . . . .
E. Technical Rule Amendments . . . . . . . . . . . .
F. Transition Period . . . . . . . . . . . . . . . .
III. GENERAL REQUEST FOR COMMENTS . . . . . . . . . . . . .
IV. PAPERWORK REDUCTION ACT . . . . . . . . . . . . . . .
V. SUMMARY OF INITIAL REGULATORY FLEXIBILITY ANALYSIS . .
VI. STATUTORY AUTHORITY . . . . . . . . . . . . . . . . .
VII. TEXT OF PROPOSED AMENDMENTS . . . . . . . . . . . . .
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I. INTRODUCTION AND EXECUTIVE SUMMARY
Over the last decade, the fund industry has experienced
enormous growth both in total assets and in the number of
funds.-[3]- Today, fund assets exceed the deposits of
commercial banks.-[4]- Coincident with the explosive
growth of fund investments, the business operations of many
funds have become increasingly complex as funds seek to offer
investors new investment options and a wider variety of
shareholder services. These factors, combined with new and
more sophisticated fund investments, have resulted in fund
prospectuses that often include long and complicated
disclosure, as funds explain their operations, investments,
and services to investors.
Many have criticized fund prospectuses, finding them
unintelligible, tedious, and legalistic.-[5]- Although
-[3]- INVESTMENT COMPANY INSTITUTE ("ICI"), MUTUAL FUND
FACT BOOK 29-37 (36th ed. 1996) ("ICI FACT
BOOK") (between 1987 and 1996, assets increased
from $769.9 billion to $3.5 trillion and the
number of funds increased from 2,317 to 6,243).
-[4]- Compare ICI, Trends in Mutual Fund Investing:
November 1996 at 3 (Dec. 1996) (ICI News
No. ICI-96-107) (fund net assets exceeded $3.5
trillion as of Nov. 1996) with 82 Fed. Res.
Bull. 12, table 1.21, at A13 (1996) (commercial
bank deposits were approximately $2.5 trillion
as of Sept. 1996).
-[5]- See, e.g., "The SEC and the Mutual Fund
Industry: An Enlightened Partnership," Remarks
by Arthur Levitt, Chairman, SEC, before the
ICI's General Membership Meeting at the
Washington Hilton Hotel, Washington, D.C.
(May 19, 1995); Simple Concept from SEC: Use
(continued...)
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the prospectus remains the most complete source of information
about a fund, technical and unnecessarily lengthy prospectus
disclosure often obscures important information relating to a
fund investment and does not serve the information needs of
the majority of fund investors.-[6]- As millions of
Americans have turned to funds as an investment vehicle of
choice,-[7]- investors need to be provided with clear and
comprehensible information that will help them evaluate and
compare fund investments.
-[5]-(...continued)
Plain English in Fund Prospectuses, L.A. TIMES,
Mar. 2, 1995, at D14; J. BOGLE, BOGLE ON MUTUAL
FUNDS 147 (1994); Rothchild, The War on
Gobbledygook, TIME, Oct. 31, 1994, at 51;
Skrzycki, Prospectuses to be in English, Donkeys
to Fly Tomorrow, WASH. POST, Oct. 21, 1994, at
B1.
-[6]- A 1995 survey conducted on behalf of the
Commission and the Office of the Comptroller of
the Currency ("OCC") found that, although fund
investors consulted the prospectus more than any
other source of information about the fund they
bought, they considered the prospectus only the
fifth-best source of information, behind
employer-provided written materials, financial
publications, family or friends, and brokers.
REPORT ON THE OCC/SEC SURVEY OF MUTUAL FUND
INVESTORS 12-13 (June 26, 1996). See also ICI,
THE PROFILE PROSPECTUS: AN ASSESSMENT BY MUTUAL
FUND SHAREHOLDERS 4 (1996) ("ICI PROFILE
SURVEY") (about half of fund shareholders
surveyed had not consulted a prospectus before
making a fund investment).
-[7]- Over 30 million U.S. households own funds. ICI
FACT BOOK, supra note 3, at 92.
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The Commission is committed to improving the disclosure
provided to fund investors-[8]- and is proposing two
major initiatives to meet this objective. First, the
Commission is proposing changes to fund disclosure
requirements in an effort to focus prospectus disclosure on
essential information about a particular fund that would
assist an investor in deciding whether to invest in that
fund.-[9]- Second, in a companion release, the
Commission is proposing a new rule to permit investors to buy
fund shares based on a fund profile (the "profile") that would
provide a summary of key information about a fund, including
the fund's investment objectives, strategies, risks,
performance, and fees.-[10]- Under this proposal,
-[8]- See "Taking the Mystery Out of the Marketplace:
The SEC's Consumer Education Campaign," Remarks
by Arthur Levitt, Chairman, SEC, at the National
Press Club, Washington, D.C. (Oct. 13, 1994);
"Investor Protection: Tips from an SEC
Insider," Remarks by Arthur Levitt, Chairman,
SEC, before the Investors' Town Meeting at the
Adam's Mark Hotel, Philadelphia, Pa.
(June 11, 1996).
-[9]- As part of the improvements to prospectus
disclosure, the Commission is proposing a new
rule intended to address certain broad
categories of investment company names that are
likely to mislead investors about an investment
company's investments and risks. The new rule
would require funds and other registered
investment companies with names suggesting a
particular investment emphasis to invest at
least 80% of their assets in the type of
investment suggested by their name.
-[10]- Profile Release, supra note 1.
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investors would receive the fund's prospectus upon request or
no later than with delivery of the purchase confirmation.
These two initiatives are intended to improve fund
disclosure by requiring prospectuses to focus on information
central to investment decisions, to provide new disclosure
options for investors, and to enhance the comparability of
information about funds. Taken together, the proposals seek
to promote more effective communication of information about
funds without reducing the amount of information available to
investors.
As part of its commitment to give investors improved
disclosure documents, the Commission recently proposed rule
amendments to require the use of plain English principles in
drafting prospectuses and to provide other guidance on
improving the readability of prospectuses.-[11]- The
Commission intends that the plain English initiatives serve as
the standard for all disclosure documents, and the plain
English proposals are an important counterpart of the proposed
-[11]- Securities Act Release No. 7380 (Jan. 14, 1997)
[62 FR 3152] ("Plain English Release"). In
conjunction with these proposals, the
Commission's Office of Investor Assistance has
issued a draft of A Plain English Handbook: How
to Create Clear SEC Disclosure Documents to
explain the plain English principles of the
proposed amendments and other techniques for
preparing clear disclosure documents. See also
"Plain English: A Work in Progress," Remarks by
Isaac C. Hunt, Commissioner, SEC, before the
First Annual Institute on Mergers and
Acquisition: Corporate, Tax, Securities, and
Related Aspects, Key Biscayne, Fla.
(Feb. 6, 1997).
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fund disclosure initiatives. If adopted, the plain English
requirements would apply to fund prospectuses and the profile.
The Commission's efforts to improve fund disclosure are
long-standing. In 1983, the Commission introduced an
innovative approach to prospectus disclosure by adopting a
two-part disclosure format.-[12]- Under this format,
the Commission intended that a fund would provide investors
with a simplified prospectus designed to contain essential
information about the fund that assists an investor in making
an investment decision. The Commission contemplated that more
extensive information and detailed discussions of matters
included in the prospectus would be available in a Statement
of Additional Information ("SAI") that investors could obtain
upon request. In adopting this new format, the Commission's
goal was to provide investors with more useful information in
"a prospectus that is substantially shorter and simpler, so
that the prospectus clearly discloses the fundamental
characteristics of the particular investment
company. . . ."-[13]-
Since 1983, the Commission has adopted a number of other
initiatives to improve fund disclosure, including a uniform
fee table and a requirement for management's discussion of
-[12]- Investment Company Act Release No. 13436
(Aug. 12, 1983) [48 FR 37928] ("Form N-1A
Adopting Release").
-[13]- Investment Company Act Release No. 12927
(Dec. 27, 1982) [48 FR 813, 814] ("Form N-1A
Proposing Release").
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fund performance ("MDFP").-[14]- While these changes
have provided investors with clear and helpful information
about fund expenses and performance, they were not intended to
address overall prospectus disclosure requirements. The
Commission has concluded that a comprehensive review and
revision of fund disclosure requirements is necessary to
improve the information provided in fund
prospectuses.-[15]-
The Commission's consideration of disclosure issues has
included evaluating the use of the profile as a standardized,
summary disclosure document. The Commission, with the
cooperation of the Investment Company Institute ("ICI") and
several large fund groups, conducted a pilot program
permitting funds to use profiles ("pilot profiles") together
-[14]- Investment Company Act Release Nos. 16244
(Feb. 1, 1988) [53 FR 3192] ("Fee Table Adopting
Release") and 19382 (Apr. 6, 1993) [58 FR 19050]
("MDFP Adopting Release"). See also Investment
Company Act Release Nos. 21216 (July 19, 1995)
[60 FR 38454] ("Money Market Fund Prospectus
Release") (proposing amendments designed to make
money market fund prospectuses simpler and more
informative) and 16245 (Feb. 2, 1988)
[53 FR 3868] ("Performance Release") (adopting a
uniform formula for calculating fund
performance).
-[15]- See, e.g., SEC, REPORT OF THE ADVISORY COMMITTEE
ON THE CAPITAL FORMATION AND REGULATORY
PROCESSES (July 24, 1996); SEC, REPORT OF THE
TASK FORCE ON DISCLOSURE SIMPLIFICATION (1996)
("DISCLOSURE SIMPLIFICATION TASK FORCE REPORT")
(recommending specific improvements in the
disclosure provided by corporate issuers).
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with their prospectuses.-[16]- The pilot profiles (like
the profile proposed today) contain a summary of key
information about the fund. The program's purpose was to
determine whether investors found the pilot profiles helpful
in making investment decisions. Focus groups conducted on the
Commission's behalf ("Focus Groups") responded very positively
to the profile concept. Fund investors participating in a
survey sponsored by the ICI also strongly favored the pilot
profiles.-[17]-
In another recent initiative, the Commission issued a
release requesting comment on ways to improve risk disclosure
and comparability of fund risk levels ("Risk Concept
Release").-[18]- The Commission received over 3,700
comment letters, mostly from individual investors. Commenters
confirmed the importance of risk disclosure to investors when
evaluating and comparing funds and highlighted the need to
improve prospectus disclosure of fund risks. In particular,
-[16]- See Investment Company Institute (pub. avail.
July 31, 1995) ("1995 Profile Letter"). The
Division of Investment Management (the "Division")
has permitted the pilot program, with some
modifications, to continue for another year. See
Investment Company Institute (pub. avail.
July 29, 1996) ("1996 Profile Letter"). The
Division also has permitted variable annuity
registrants to use "variable annuity profiles"
together with their prospectuses. National
Association for Variable Annuities (pub. avail.
June 4, 1996).
-[17]- See ICI PROFILE SURVEY, supra note 6, at 31-32.
-[18]- Investment Company Act Release No. 20974
(Mar. 29, 1995) [60 FR 17172].
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commenters indicated that current risk disclosure is difficult
to understand and does not fully convey to investors the risks
associated with an investment in a fund.
The Commission remains committed to the same goals
articulated in adopting Form N-1A. The initiatives proposed
today are intended to further these goals and achieve clear
and concise disclosure that would assist fund investors in
making investment decisions. Based on the Commission's review
of current fund prospectuses and related disclosure
requirements, the Commission has identified 5 major objectives
that form the basis for today's initiatives:
- Improved prospectus disclosure: Although some funds
have made significant and commendable efforts to
improve their prospectuses,-[19]- prospectus
disclosure relating to a fund tends to be overly
complex and difficult to follow and should be revised
to focus on essential information about the fund to
help an investor make an informed investment decision.
- Fund names: Although a fund's name (like any other
single piece of information about an investment) cannot
tell the whole story about a fund investment, names may
communicate a great deal to an investor, and investors
should have greater assurance that a fund whose name
suggests that the fund focuses on certain investments
will make those investments.
- Investor choice: Different investors prefer different
amounts of information before making an investment
decision, and regulatory requirements should not
-[19]- See, e.g., McTague, Simply Beautiful: Shorn of
Legalese, Even Prospectuses Make Sense,
BARRON'S, Oct. 7, 1996, at F10 (about the recent
efforts of the John Hancock funds and other fund
groups to improve their prospectuses).
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foreclose options that respond to prospective
investors' information needs.
- Standardized fund summaries: Investors have expressed
a strong preference for summary information about funds
in a standard format; summaries should provide
investors with additional tools to help them make
better use of the extensive information available about
funds.
- Clearer risk disclosure: The risks of investing in a
fund often are not readily apparent to investors and
should be communicated more effectively.
The proposed disclosure initiatives address these objectives.
Improved Prospectus Disclosure
The proposed amendments would change the disclosure
requirements for fund prospectuses. The Commission regards
the prospectus as an investor's primary source of information
about a fund. A prospectus, however, is not useful to
investors if it is in a form that discourages investors from
reading it. The prospectus is intended to provide information
about matters of fundamental importance to most
investors.-[20]- The Commission's proposals are
intended to update and streamline prospectus disclosure
requirements to focus on essential information about a
-[20]- See Form N-1A Proposing Release, supra note 13,
at 814.
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particular fund and make the prospectus less technical and
easier to read.-[21]- This initiative is designed to
eliminate prospectus clutter that tends to obscure information
that could help an investor make an investment decision. The
proposed amendments would:
-- move certain disclosure about fund organization and
legal requirements from the prospectus to the SAI to
focus prospectus disclosure on essential information
about a fund, while continuing to assure that the
information is available to those interested in
reviewing it;
-- permit a fund that is offered as an investment
alternative in a participant-directed defined
contribution plan to tailor its prospectus for use by
plan participants;
-- update and incorporate certain staff disclosure
requirements into the amended registration form and
include guidance about legal, interpretive, and
operational matters in a new "Investment Company
Registration Package," which, together, would provide
more effective guidance about disclosure and legal
matters;-[22]- and
-[21]- Under the authority in section 10(a) of the
Securities Act [15 U.S.C. 77j(a)], the
Commission is proposing amendments to current
prospectus disclosure requirements based on its
determination that certain disclosure
requirements result in information that, while
useful to some investors, is not necessary in
the public interest or for the protection of
investors to be included in the prospectus.
-[22]- Incorporating certain staff disclosure
requirements into the revised form is intended
to formally identify those disclosure
(continued...)
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-- simplify current disclosure instructions to provide
clearer guidance for preparing and filing fund
registration statements.
Fund Names and Investments
In a companion release, the Commission is proposing a new
rule under the Investment Company Act that would address
certain broad categories of investment company names that are
likely to mislead investors about an investment company's
investments and risks. The rule would require a fund or any
other registered investment company with a name that suggests
a particular investment emphasis (e.g., a fund that calls
itself the ABC Stock Fund, the XYZ Bond Fund, or the QRS U.S.
Government Fund) to invest at least 80% of its assets in the
type of investment suggested by its name.-[23]- Under
-[22]-(...continued)
requirements that would apply to all funds
regardless of their particular circumstances.
Among other things, the proposed approach seeks
to address disclosure requirements that have
been developed in connection with an issue
presented by a specific fund, but applied to all
funds regardless of their particular
circumstances. See Securities Act Release No.
5906 (Feb. 15, 1978) (regarding a 1977 report of
the Advisory Committee on Corporate Disclosure,
which, among other things, recommended that,
after identifying a disclosure problem of
general significance, the Commission initiate
rulemaking and not rely for prolonged periods on
ad hoc procedures such as commenting on filings
and enforcement actions).
-[23]- Fund Names Release, supra note 2.
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current positions of the Division of Investment Management
(the "Division"), these funds and investment companies
generally are subject to a 65% investment requirement. The
rule would address investment companies with names that
suggest the company focuses its investments in a particular
country or geographic region and investment companies with
names that indicate the company's distributions are exempt
from income tax. In addition, the rule would prohibit an
investment company from using a name that suggests that the
company or its shares are guaranteed or approved by the U.S.
government.
Investor Choice
The proposed initiatives would give investors new
disclosure options so that they could determine the amount of
information they want to review before investing in a fund.
The proposed profile would contain a summary of key
information about a fund and enable investors who are
comfortable with that level of information to purchase a
fund's shares based on the profile.-[24]- Each investor
using the profile to make an investment decision would receive
the fund's prospectus with the confirmation of his or her
-[24]- The profile would be a summary prospectus
adopted under sections 10(b) of the Securities
Act [15 U.S.C. 77j(b)] and 24(g) of the
Investment Company Act [15 U.S.C. 80a-24(g)].
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investment. Investors also would have the option to request
and review the fund's prospectus and other information about
the fund (e.g., the fund's shareholder reports and SAI) before
making an investment decision.
Standardized Fund Summaries
The proposals would require standardized information in
the profile and in a new risk/return summary at the beginning
of all fund prospectuses. The profile would include
disclosure of 9 items in a specific order and in a
question-and-answer format designed to help investors evaluate
and compare funds.-[25]- The risk/return summary at the
beginning of the prospectus (also included as the first 4
items in the proposed profile) would highlight information
about a fund's investment objectives, strategies, risks and
performance, and fees, and make this information readily
available to investors in a consistent presentation.
-[25]- The profile would include disclosure about a
fund's investment objectives, strategies, risks
and performance, fees, investment adviser and
portfolio manager, purchase and redemption
procedures, tax implications, and the services
available to shareholders. See Profile Release,
supra note 1.
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Clearer Risk Disclosure
The proposals seek to improve prospectus disclosure about
the risks of investing in a particular fund. Based in large
part on comments received in response to the Risk Concept
Release,-[26]- the proposals would improve risk
disclosure as follows:
-- Overall fund risks -- A fund would be required to
discuss in the prospectus the overall risks of
investing in the fund. The proposed amendments are
designed to minimize the detailed and technical
descriptions of the risks associated with specific
portfolio securities typically included in a fund's
prospectus and to elicit risk disclosure that relates
to the particular fund and would be more useful to
investors.
-- Narrative risk summary -- The profile and the
prospectus risk/return summary would include a
narrative risk summary. The risk summary would provide
a concise description of a fund's overall risks that
could be used to evaluate and compare the risks of
different funds.
-- Graphic presentation of risk -- The profile and
prospectus risk/return summary would include a bar
chart reflecting a fund's returns over a ten-year
period, which would illustrate fund risks by showing
changes in the fund's performance from year to year.
To help investors evaluate a fund's risks and returns
-[26]- The Commission also considered other
information
about fund risk disclosure, including the results of
an investor survey sponsored by the ICI. See ICI,
SHAREHOLDER ASSESSMENT OF RISK DISCLOSURE METHODS
(1996) ("ICI RISK SURVEY").
==========================================START OF PAGE 19======
relative to "the market," a table accompanying the bar
chart would compare the fund's performance to that of a
broad-based securities market index.
* * * * *
The proposed initiatives are designed to promote more
effective communication of information about funds without
reducing the amount of information available to investors and
other interested parties (e.g., financial analysts and
advisers). The proposals would further Commission actions to
improve prospectus disclosure beginning with the two-part
disclosure format adopted in 1983. Permitting funds to use
profiles would respond to investor support for a concise
disclosure document highlighting key fund information. The
profile would complement the revised prospectus, which, as the
primary disclosure document, would be delivered to all
investors that purchase fund shares. Taken together, these
initiatives are intended to better realize the Commission's
commitment to improving disclosure for fund investors.
II. DISCUSSION
Release Organization. The revised Form would retain the
overall structure of current Form N-1A. To make the proposed
requirements of revised Form N-1A easy to follow and to
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highlight the proposed changes, this release addresses revised
Items in the order that they would appear in the Form. While
some Items in proposed Part A (the prospectus) would not be
changed (except for technical revisions to improve clarity),
other Items would be new or extensively revised. Certain
disclosure currently required in the prospectus would be moved
to Part B (the SAI), where the information would continue to
be available to investors and others who are interested in the
information.-[27]- The proposed amendments would
incorporate certain disclosure requirements from the
Guidelines for Form N-1A (the "Guides") and the Generic
Comment Letters ("GCLs") that have been issued over time by
the Division.-[28]-
The proposed amendments also would revise the General
Instructions to Form N-1A to update the Instructions and make
them easier to use. The release discusses in detail the
proposed changes to the General Instructions after discussing
-[27]- In addition, Parts B and C of proposed Form N-1A
would include a number of technical revisions to
clarify and simplify the Form's requirements.
-[28]- See Letters to Registrants (Jan. 11, 1990)
("1990 GCL"); (Jan. 3, 1991) ("1991 GCL");
(Jan. 17, 1992) ("1992 GCL"); (Feb. 22, 1993)
("1993 GCL"); (Feb. 25, 1994) ("1994 GCL");
(Feb. 3, 1995) ("1995 GCL"); (Feb. 16, 1996)
("1996 GCL"). For a discussion of the Guides
and GCLs, see infra notes 255-261 and
accompanying text.
==========================================START OF PAGE 21======
changes to the Form's disclosure requirements.-[29]-
The proposed amendments would add several definitions to the
General Instructions to standardize certain terms used in the
Form. In particular, a new definition of "fund" would
accommodate the use of Form N-1A by series funds.-[30]-
The General Instructions also would address other matters
regarding the use of Form N-1A, including disclosure relating
to multiple funds and classes, prospectuses used in the
defined contribution plan market, and incorporation by
reference.
Plain English. Investment company registration statement
forms currently include instructions, which govern all
prospectus disclosure, directing a fund to provide information
in the prospectus in a clear, concise, understandable manner
by, among other things, avoiding the use of technical or legal
terms, complex language, or excessive detail.-[31]- The
Commission's plain English proposals also would apply to
-[29]- See infra Part II.D.
-[30]- Funds often organize as series funds and offer
investors an opportunity to invest in one or
more "portfolios," each of which has a specific
investment objective. The revised Form would
define a "fund" to include both the registrant
and a series of the registrant unless otherwise
indicated.
-[31]- See, e.g., General Instruction G of Form N-1A.
==========================================START OF PAGE 22======
prospectus disclosure.-[32]- Initially, the proposed
plain English principles would apply to the front and back
cover pages of a fund's prospectus and to the summary of the
prospectus, if any.-[33]- Because the Commission issued
the plain English release before this release proposing
amendments to Form N-1A, the proposed requirement for plain
English risk factors disclosure does not specifically identify
the proposed risk/return summary, which is the parallel type
of disclosure for funds and is not a summary of the
prospectus. If the proposed plain English requirements and
the proposed risk/return summary are adopted, the Commission
intends to clarify that plain English disclosure principles
apply to the risk/return summary.-[34]- The Commission
also requested comment whether the plain English disclosure
principles should be modified for fund prospectuses.
-[32]- See Plain English Release, supra note 11.
-[33]- Id. (proposing amendments to add new paragraph
(d) to rule 421 under the Securities
Act [17 CFR 230.421]).
-[34]- To improve the clarity of prospectus disclosure,
the Plain English Release also proposed
revisions to Regulation S-K [17 CFR 229.10 et
seq.], which sets out general disclosure
requirements for corporate issuers. Similar
requirements are included in specific rules for
funds, and conforming changes to these rules
would be made in connection with this and other
fund disclosure initiatives. See proposed
amendments to rule 481(b)(1) (disclaimer about
the Commission's approval of securities offered
in a prospectus), infra note 31.
==========================================START OF PAGE 23======
A. Part A -- Information in the Prospectus
1. Item 1 -- Front and Back Cover Pages
Form N-1A requires certain information to appear on the
outside front cover page of a fund's prospectus. In an effort
to "unclutter" the prospectus cover page and avoid repeating
information contained in the proposed risk/return summary at
the beginning of the prospectus, the proposed amendments would
simplify the disclosure currently required on the front cover
page and require certain information to be included on the
outside back cover page.
The front cover page would be required to include a fund's
name.-[35]- The front cover page also would include the
disclaimer about the Commission's approval of the securities
being offered and the accuracy and adequacy of the information
included in the prospectus. The wording of the disclaimer
would be simplified and the disclaimer would no longer be
-[35]- When a prospectus relates to one or more series,
both the name of the registrant and the series
would be required to appear on the back cover
page. The name of the registrant may assist
investors in obtaining additional information
about a particular series or the registrant.
==========================================START OF PAGE 24======
required to be in large capital letters and bold-faced
type.-[36]-
The proposed amendments would not require cover page
disclosure that would repeat information required to be
disclosed in the proposed risk/return summary. This
information would include the identification of the type of
fund offered (or a brief statement of the fund's investment
objectives) and certain disclosure required for money market
funds.-[37]- The proposed amendments also would no
longer require a fund to provide statements that the
prospectus sets forth concise information about the fund that
a prospective investor ought to know before investing and
should be retained for future reference.-[38]- These
-[36]- Proposed amendments to rule 481(b)(1) under the
Securities Act [17 CFR 230.481(b)(1)]. Amended
rule 481(b)(1) would require disclosure to the
effect that: The Securities and Exchange
Commission has not approved or disapproved these
securities or passed upon the adequacy of this
prospectus and any representation to the
contrary is a criminal offense. The same
revisions to Item 501 of Regulation S-K
[17 CFR 229.501] were recently proposed for
corporate registrants. See Plain English
Release, supra note 11. See also DISCLOSURE
SIMPLIFICATION TASK FORCE REPORT, supra note 15,
at 18.
-[37]- See infra notes 52-58 and accompanying text.
-[38]- See DISCLOSURE SIMPLIFICATION TASK FORCE REPORT,
supra note 15, at 19 (recommending elimination
of many legal warnings to make the cover page
more inviting and present any necessary legal
(continued...)
==========================================START OF PAGE 25======
statements do not appear to be particularly helpful to
investors.
The proposed amendments would consolidate disclosure
regarding the availability of additional information about a
fund on the back cover page of the fund's prospectus. The
back cover page would include disclosure about the
availability and date of the SAI, which would be revised to
require a telephone number that investors could use to obtain
the SAI without charge. To ensure prompt delivery of the SAI
to those investors who request it, a new Instruction would
require a fund to send the SAI within 3 days of the receipt of
a request.-[39]- The back cover page would include
information (if applicable) regarding the incorporation by
reference of a fund's SAI or financial information from the
annual report into the prospectus and disclosure that other
information about the fund has been filed with, and is
-[38]-(...continued)
warnings in a more readable style and format).
See also Plain English Release, supra note 11,
at 3160.
-[39]- See Letter from Paul Schott Stevens, Senior Vice
President and General Counsel, ICI, to Barry P.
Barbash, Director, Division of Investment
Management, SEC, at 11 (May 20, 1996) ("ICI
Survey Letter") (recommending that funds be
required to deliver shareholder reports within 3
days of a request); Form N-2 [17 CFR 274.11a-1]
(requiring closed-end investment companies to
include a telephone number for investors to
request a SAI and to send the SAI within 2 days
of a request).
==========================================START OF PAGE 26======
available from, the Commission.-[40]- The back cover
page also would include disclosure about how a shareholder can
make inquires about the fund.-[41]-
2. Item 2 -- Risk/Return Summary: Investments, Risks,
and Performance
The proposed amendments would require at the beginning of
every prospectus a risk/return summary that would provide key
information about a fund's investment objectives, principal
strategies, risks, performance, and fees. This information
would be required to appear in a specific sequence and to be
presented in a question-and-answer format.-[42]- The
proposed question-and-answer format, frequently used by many
-[40]- The disclosure would be revised to indicate,
among other things, that information about the
fund (including the SAI) is available on the
Commission's Internet Web site. Currently, only
funds that disseminate prospectuses
electronically are required to provide
disclosure about the Commission's Web site. See
Investment Company Act Release No. 21946
(May 9, 1996) [61 FR 24652].
-[41]- This information currently is required by
Item 6(e) to be disclosed in the prospectus. To
assist the Division in responding to investor
inquiries, the proposed amendments would require
a fund to include its Investment Company Act
file number on the back cover page.
-[42]- The information in the risk/return summary would
be substantially the same as the first 4 items
of the proposed profile. See Profile Release,
supra note 1.
==========================================START OF PAGE 27======
funds, is intended to help communicate the required
information effectively. The Commission requests comment on
this format and whether funds instead should be permitted to
choose the type of heading for the prescribed disclosure
topics.
The risk/return summary, like the profile, is intended to
respond to investors' strong preference for summary
information about a fund in a standardized format.-[43]-
Since the profile would be optional, the proposed risk/return
summary in the prospectus would provide all investors with key
information about a fund in a standardized, easily accessible
place that could be used to evaluate and compare fund
investments.
-[43]- Focus Group participants, for example, expressed
strong support for summary information in a
standardized format. In addition, in connection
with the profile initiative, many individual
investors have written to the Commission about
the need for concise, summary information
relating to a fund. See also Profile
Prospectuses: An Idea Whose Time Has Come,
MUTUAL FUNDS MAGAZINE, Aug. 1996, at 11. In
keeping with the goal of providing key
information in a standardized summary, proposed
General Instruction C.2(b) would not permit a
fund to include in the risk/return summary
information that is not required or otherwise
permitted.
==========================================START OF PAGE 28======
a. Investment Objectives and Principal Strategies
The proposed amendments would require a fund to disclose
in the risk/return summary its investment objectives and to
summarize, based on the information provided in the
prospectus, how the fund intends to achieve those objectives.
The summary would be required to identify the fund's principal
investment strategies, including the particular types of
securities in which the fund invests or will invest
principally, and any policy of the fund to concentrate in an
industry or group of industries.-[44]-
A fund also would be required to inform investors about
the availability of additional information about the fund's
investments in the fund's shareholder reports. Fund annual
reports typically include the MDFP, which discusses a fund's
strategies that materially affected the fund's performance
during the most recent fiscal year.-[45]- The
Division's review of and experience with MDFP disclosure
indicates that the annual report may be a valuable resource
-[44]- The criteria for determining whether a
particular strategy is a principal strategy and
disclosure about concentration policies are
discussed infra notes 109-112 and accompanying
text.
-[45]- See proposed Item 5 (current Item 5A) (requiring
the MDFP to be disclosed in the prospectus
unless disclosed in the annual report).
==========================================START OF PAGE 29======
for investors.-[46]- The proposed amendments would
require the risk/return summary to contain disclosure to the
following effect:
Additional information about the fund's investments is
available in the fund's annual and semi-annual reports to
shareholders. In particular, the fund's annual report
discusses the relevant market conditions and investment
strategies used by the fund's investment adviser that
materially affected the fund's performance during the last
fiscal year. You may obtain these reports at no cost by
calling ______________.-[47]-
-[46]- Commenters also have cited the annual report as
a source of valuable information. See Voss
Sanders, Dear Shareholder, MORNINGSTAR MUTUAL
FUNDS, Apr. 26, 1996, at 1 (commenting on
improved annual report disclosure).
-[47]- If applicable, a fund could indicate that its
annual and semi-annual reports are available on
its Internet site or by E-mail. In addition, a
fund that provides its MDFP in the prospectus or
a money market fund (which is not required to
prepare a MDFP) would omit the second sentence
of this disclosure.
Instruction 3 to proposed Item 2(b)(2) would require a
fund to send, as applicable, the annual or semi-annual
report within 3 business days of a request. The
Commission views prompt delivery of the annual or
semi-annual report or SAI to those investors who request
it to be imperative to the goal of promoting effective
communication about funds. The Commission's Office of
Compliance Inspections and Examinations would examine a
fund's compliance with the 3-day mailing requirement, and
the Commission would bring an enforcement action in an
appropriate case for failing to comply with the
requirement. See also Profile Release, supra note 1
(discussing the Commission's intention in connection with
the profile initiative to monitor a fund's compliance with
the proposed requirement to send the fund's prospectus
within 3 days of a request).
==========================================START OF PAGE 30======
The proposed amendments would require this disclosure to
appear in the context of information about a fund's
investments. The Commission requests comment on this
approach. For example, would disclosure about the
availability of additional information about the fund (e.g.,
the fund's shareholder reports, SAI, or any other information)
be more helpful to investors if the disclosure was presented
under a separate caption in the risk/return summary or on the
back cover page of the prospectus? Should this disclosure
include an explanation about the various types of information
available to investors?-[48]-
b. Risks
Narrative Risk Disclosure. The proposed amendments would
require a fund to summarize the principal risks of investing
in the fund based on the information provided in the
prospectus. More than 75% of the individual investors
commenting on the Risk Concept Release specifically favored
requiring a risk summary in fund prospectuses. This
disclosure would be required to focus on the risks to which
the fund's particular portfolio as a whole is subject and the
circumstances reasonably likely to affect adversely the fund's
-[48]- As proposed, the back cover page of the
prospectus would include more general disclosure
about the availability of additional
information.
==========================================START OF PAGE 31======
net asset value, yield, and total return.-[49]- The
risk section of the risk/return summary also would include
disclosure about the risk of losing money and identify the
types of investors for whom the fund may be an appropriate or
inappropriate investment (based on, for example, an investor's
risk tolerance and time horizon).-[50]- A fund, at its
option, could discuss in the risk section the potential
rewards of investing in the fund as long as the discussion
provides a balanced presentation of the fund's risks and
rewards.-[51]-
-[49]- See infra notes 133-138 and accompanying text.
The proposed amendments also would require a
fund to disclose, if applicable, that it is
non-diversified. See section 5(b) of the
Investment Company Act [15 U.S.C. 80a-5(b)]
(regarding diversified and non-diversified
funds). To help investors understand this
disclosure, a non-diversified fund would be
required to describe the effects and to
summarize the risks of non-diversification.
-[50]- Information about whether a fund is appropriate
for particular types of investors is designed to
help investors evaluate and compare funds based
on their investment goals and individual
circumstances. In the pilot profiles, this
information is presented under a separate
caption relating to the appropriateness of an
investment for certain investors. Because this
information is closely related to the risks of
investing in a fund, the proposed amendments
would integrate this disclosure into the risk
section of the risk/return summary.
-[51]- The 1996 Profile Letter, in contrast, permits
disclosure about the rewards of investing in a
fund only if presented separately from
disclosure about the fund's risks. 1996 Profile
Letter, supra note 16, at 2.
==========================================START OF PAGE 32======
Special Risk Disclosure Requirements. Certain types of
funds are required to provide special disclosure on the cover
page of their prospectuses. Form N-1A requires a money market
fund to disclose on the cover page of its prospectus that an
investment in the fund is neither insured nor guaranteed by
the U.S. Government, and that there can be no assurance that
the fund will be able to maintain a stable net asset value of
$1.00 per share.-[52]- The Form requires a tax-exempt
money market fund that concentrates its investments in a
particular state (a "single state money market fund") to
disclose that the fund may invest a significant percentage of
its assets in a single issuer and that investing in the fund
may be riskier than investing in other types of money market
funds.-[53]- The disclosure required for all money
market funds is intended to alert investors that investing in
a money market fund is not without risk.-[54]- The
disclosure required for single state money market funds seeks
to inform investors about the particular risks associated with
a single state money market fund and to distinguish these
-[52]- Item 1(a)(vi).
-[53]- Item 1(a)(vii). This disclosure is not required
if the fund limits its investments in a single
issuer to no more than 5% of the fund's assets.
-[54]- See Investment Company Act Release Nos. 17589
(July 17, 1990) [55 FR 30239, 30247] and 18005
(Feb. 20, 1991) [56 FR 8113, 8123] (proposing
and adopting revisions to rules relating to
money market funds).
==========================================START OF PAGE 33======
funds from other money market funds.-[55]- In addition,
a fund that is advised by or sold through a bank is required
to disclose on the cover page of its prospectus that the
fund's shares are not deposits or obligations of, nor
guaranteed or endorsed by, the bank, and that the shares are
not insured by the Federal Deposit Insurance Corporation
("FDIC") or any other government agency.-[56]- This
disclosure is intended to alert investors that funds advised
by or sold through banks are not federally insured.-[57]-
-[55]- Unlike other money market funds, a single state
money market fund is not subject to the issuer
diversification requirements of rule 2a-7
[17 CFR 270.2a-7]. In March 1996, the
Commission adopted amendments to rule 2a-7 that
would require a single state money market fund,
with respect to 75% of its assets, to invest no
more than 5% of its assets in securities of a
single issuer. Investment Company Act Release
No. 21837 (Mar. 21, 1996) [61 FR 13956]. The
Commission has suspended the compliance date for
these amendments pending the adoption of
technical changes to amended rule 2a-7.
Investment Company Act Release Nos. 22135
(Aug. 13, 1996) [61 FR 42786] and 22283 (Dec.
10, 1996) [61 FR 66621].
-[56]- 1994 GCL, supra note 28, at II.B; Letter to
Registrants from Barbara J. Green, Deputy
Director, Division of Investment Management, SEC
(May 13, 1993) ("Division Bank Letter").
-[57]- See Division Bank Letter, supra note 56. See
also Testimony of Ricki Helfer, Chairman, FDIC,
on FDIC Survey of Nondeposit Investment Sales at
FDIC-Insured Institutions Before the Subcomm. on
Capital Markets, Securities, and Government
Sponsored Enterprises of the House Comm. on
Banking and Financial Services, 104th Cong.,
2d Sess. (June 26, 1996) (citing surveys in
October 1995 and April 1996 indicating that
approximately one-third of bank customers either
(continued...)
==========================================START OF PAGE 34======
The proposed amendments would move the required disclosure
for all money market funds, single state money market funds,
and funds advised by or sold through banks to the risk section
of the risk/return summary. Since this disclosure relates
directly to a particular fund's risks, it would appear to be
more meaningful to investors when presented in the context of
information about the fund's risks. The proposed approach
also would help streamline the prospectus cover page and avoid
repeating information on the cover page and in the risk
section of the risk/return summary.
The proposed amendments would revise the wording of the
current disclosure required for all money market funds and
funds advised by or sold through banks. The proposed
amendments would simplify the disclosure that fund shares are
not federally insured as follows:
An investment in the fund is not insured or guaranteed by
the FDIC or any other government agency.
The proposed amendments also would simplify the technical
disclosure that a money market fund may not be able to
-[57]-(...continued)
thought that, or did not know whether, funds
sold through banks were insured).
==========================================START OF PAGE 35======
maintain a stable net asset value. The revised disclosure
would state:
Although the fund seeks to preserve the value of your
investment at $1.00 per share, it is possible to lose
money by investing in the fund.-[58]-
The Commission requests comment whether the disclosure
required for all money market funds, single state money market
funds, and funds advised by or sold through banks should be
moved from the prospectus cover page to the risk/return
summary. If the disclosure is moved from the cover page,
should it be highlighted in a typographically distinctive
manner (e.g., boldface or italics)? The Commission also
requests comment on the wording of the proposed disclosure.
In addition, the Commission requests comment whether the
disclosure for single state money market funds should continue
to be required. The disclosure, for example, may exaggerate
the risks of a single state money market fund since these
funds, like all money market funds, may purchase only those
-[58]- The proposed disclosure, which would be required
to be given by a money market fund in place of
the proposed general risk disclosure about
losing money, seeks to strike a balance between
the potential to lose money in a money market
fund and the relative risk of losing money in a
money market fund as compared to other types of
funds.
==========================================START OF PAGE 36======
portfolio instruments that meet the credit quality and
maturity requirements of rule 2a-7.-[59]-
Risk/Return Bar Chart and Table. The proposed amendments
would require a bar chart showing a fund's annual returns for
each of the last 10 calendar years and a table comparing the
fund's average annual returns for the last one, five, and ten
fiscal years to those of a broad-based securities market
index.-[60]- The bar chart would illustrate graphically
a fund's past risks by showing changes in the fund's returns
over time. The information in the table would enable
investors to evaluate a fund's performance and risks relative
to "the market." Over 75% of individual investors responding
to the Risk Concept Release favored a bar chart presentation
of fund risks.-[61]- Focus Group participants found
-[59]- Among other things, rule 2a-7 requires a money
market fund to invest in securities that are
rated in one of the two highest categories by a
nationally recognized statistical rating
organization (or, if unrated, to be of
comparable quality) and have a maturity of 13
months or less. Rule 2a-7(a)(9) and (c)(3).
-[60]- Proposed Item 2(c)(2).
-[61]- Risk Concept Release, supra note 18. See also
ICI Risk Survey, supra note 26, at 21, 37 (51%
of survey participants indicated they were very
confident about using a bar chart to compare the
risks of different funds and 49% of survey
participants indicated they were very confident
in using a bar chart to assess the risks of a
single fund). In addition, all commenters
responding to the Commission's initiative to
(continued...)
==========================================START OF PAGE 37======
both a bar chart and tabular presentation of fund performance
helpful in evaluating and comparing fund investments,
particularly when the table included return information for a
broad-based index.
The proposed amendments would require the bar chart and
table to be included in the risk section of the risk/return
summary under a subheading that refers to both risk and
performance.-[62]- To help investors use the
information in the bar chart and table, the proposed
amendments would require a fund to explain how the information
illustrates the fund's risks and performance.
An example of the risk/return bar chart and table is set
forth below:
-[61]-(...continued)
simplify money market fund prospectuses
supported the proposal to replace the financial
highlights information in money market fund
prospectuses with a ten-year bar chart
reflecting a money market fund's returns. See
Summary of Comment Letters on Proposed
Amendments to the Rules Regulating Money Market
Fund Prospectuses Made in Response to Investment
Company Act Release No. 21216, at 2 (File
No. S7-21-95) ("Money Market Prospectus Comment
Summary").
-[62]- The 1996 Profile Letter, in contrast, requires
the bar chart and table to appear under a
caption relating to a fund's past performance.
1996 Profile Letter, supra note 16, at 2.
==========================================START OF PAGE 38======
RISK AND PERFORMANCE INFORMATION
The bar chart and table shown below illustrate the XYZ Stock
Fund's risks and performance by showing changes in the Fund's
performance from year to year over a 10-year period and by
showing how the Fund's average annual returns for one, five,
and ten years compare to those of a broad-based securities
market index. How the Fund has performed in the past is not
necessarily an indication of how the Fund will perform in the
future.
(see Additional Materials for an example of the bar graph and
the table; http://www.sec.gov/rules/extra/337398.htm)
==========================================START OF PAGE 39======
Bar Chart Return Information.-[63]- The proposed
amendments would require the bar chart to reflect annual
returns for a fund's last 10 calendar years.-[64]-
Requiring calendar year returns is intended to help investors
compare the risks of different funds over similar time
periods.
A fund would calculate the annual returns in the bar chart
by using the same method required for calculating annual
-[63]- Funds generally file Form N-1A electronically on
the Commission's electronic data gathering
analysis and retrieval system ("EDGAR").
Although EDGAR currently does not reproduce
graphic images like the bar chart, the EDGAR
rules require a fair and accurate narrative
description or tabular presentation in the place
of any omitted material. Rule 304(a) of
Regulation S-T [17 CFR 232.304(a)]. The
Commission anticipates future modifications that
would permit EDGAR to reflect graphic images on
electronically-filed documents.
-[64]- A fund also would be required to present the
corresponding numerical return next to each bar.
The proposed amendments would require a fund to
have at least one calendar year of returns
before including the bar chart. A fund that
includes a single bar in the bar chart or a fund
that does not include the bar chart because the
fund does not have annual returns for a full
calendar year would be required to modify, as
appropriate, the narrative explanation
accompanying the bar chart and table (e.g., by
stating that the information shows the fund's
risks and performance by comparing the fund's
performance to a broad measure of market
performance). The proposed amendments would
require the bar chart of a fund in operation for
fewer than 10 years to include annual returns
for the life of the fund.
==========================================START OF PAGE 40======
returns in the financial highlights information included in
fund prospectuses.-[65]- Like the returns in the
financial highlights information, the returns in the bar chart
would not reflect sales loads. Sales loads can be accurately
and fairly reflected in return information of the type
contained in the table by deducting sales loads at the
beginning (or end) of particular periods from a hypothetical
initial fund investment.-[66]- Reflecting sales loads
in the bar chart, however, may be impracticable. In addition,
reflecting the payment of sales loads may be less important in
the bar chart than in the table, since the bar chart is
intended primarily to depict fund risks graphically. The
proposed amendments would require a fund that charges sales
loads to disclose that sales loads are not reflected in the
bar chart and that if the loads were included, returns would
be less than those shown.-[67]-
The Commission requests comment on the proposed bar chart.
In particular, the Commission requests comment whether the bar
-[65]- Instruction 1(a) to proposed Item 2(c)(2). See
also Instruction 3 to proposed Item 9(a)
(regarding the calculation of total returns
provided in financial highlights information).
-[66]- As a consequence, the fund's average annual
returns in the table would reflect the payment
of sales loads (if any).
-[67]- Instruction 1(a) to proposed Item 2(c)(2)
(requiring similar disclosure if a fund charges
account fees).
==========================================START OF PAGE 41======
chart communicates information about fund risks effectively or
whether the bar chart has limitations that detract from its
usefulness.-[68]- The Commission requests comment
whether the bar chart should include return information for
additional or different time periods. For example, should the
bar chart reflect return information for shorter time periods
(e.g., calendar quarters) or longer time periods (e.g., for
the life of the fund when more than 10 years)? The Commission
also requests comment whether the return information in the
bar chart should include sales loads and, specifically, how
sales loads could be accurately and fairly reflected.
Bar Chart Presentation for More than One Fund. The
proposed amendments would not limit the number of funds for
which return information could be included in a single bar
chart. While the proposed approach would give funds
flexibility in preparing the bar chart, including return
information in a single bar chart for a number of funds could
make the graphic presentation of the bar chart complex and
-[68]- See, e.g., Remarks by Steven M.H. Wallman,
Commissioner, SEC, before the ICI's 1995
Investment Company Directors Conference and New
Directors Workshop, Washington, D.C.
(Sept. 22, 1995) (discussing circumstances when
a bar chart's presentation of fund risks may be
confusing to investors, such as when bar charts
use different scales).
==========================================START OF PAGE 42======
difficult to follow.-[69]- Bar charts included in the
pilot profiles reflect information for only one
fund.-[70]- In addition, Focus Group participants found
prototype bar charts that included information for 6 funds
(i.e., 6 bars per year) to be confusing. The Commission
requests comment whether the number of funds that could be
included in a single bar chart should be limited to one fund
or to some other number of funds (e.g., 2, 4, or no more than
6 funds). This approach could enhance the clarity of the bar
chart presentation. Limiting the number of funds that could
be included in a single bar chart, however, could require a
prospectus offering several funds to include more than one
chart, which, in turn, could complicate bar chart disclosure
and lengthen the prospectus.
Multiple Class Funds. In contrast to the proposed
approach with respect to the bar chart presentation for funds,
the proposed amendments would require a multiple class fund to
-[69]- While the proposed amendments would not impose a
specific limit on the number of funds included
in a bar chart, the presentation of the bar
chart would be subject to the general
requirement that information in the prospectus
be set forth in a clear and understandable
manner. See proposed General
Instruction C.1(a).
-[70]- See 1995 Profile Letter, supra note 16
(permitting the pilot profiles to include
disclosure for a single fund or series of a
fund).
==========================================START OF PAGE 43======
include annual return information in the bar chart for only
one class.-[71]- Unlike individual funds, classes
represent interests in the same investment portfolio, and the
returns of each class differ only to the extent the classes do
not have the same expenses. Including return information for
all classes appears to be unnecessary to illustrate the risks
of investing in the fund. In addition, the proposed
amendments would require the table accompanying the bar chart
to provide return information for each class so that investors
would be able to identify and compare the performance of the
classes offered in the prospectus.
The proposed amendments would require the bar chart to
reflect annual return information for the class offered in the
prospectus that has returns for the longest period over the
last 10 years. This approach is intended to provide the
greatest amount of information about changes in the fund's
returns. When two or more classes have returns for at least
10 years or returns for the same period but fewer than
10 years, the fund would be required to provide annual returns
for the class with the greatest net assets as of the end of
the most recent calendar year. Focusing on the class with the
greatest net assets is intended to provide returns in the bar
chart for a "representative" class offered in the prospectus.
-[71]- Instruction 3(a) to proposed Item 2(c)(2).
==========================================START OF PAGE 44======
The proposed requirements may result in including returns
in the bar chart for a class that has lower annual operating
expenses (and better performance) than other classes offered
in the prospectus. The Commission considered several other
approaches, including requiring a fund to show returns in the
bar chart for the class with the highest annual operating
expenses. The Commission has not proposed these alternatives
because they would make the bar chart requirements too complex
and difficult to apply. In addition, the bar chart primarily
is designed to show graphically the risks of investing in a
fund and not the costs of investing in the fund. The
Commission requests comment whether the bar chart presentation
for multiple class funds should be limited to one class. If
so, should the selection of the class be made on a basis other
than that proposed?
Tabular Presentation of Fund and Index Returns. The
proposed amendments would require the table accompanying the
bar chart to present the fund's average annual returns for the
last one, five, and ten fiscal years (or for the life of the
fund, if shorter)-[72]- and to compare that information
-[72]- The proposed amendments would require a money
market fund to provide its 7-day yield in the
table. A non-money market fund would be
permitted to disclose its yield, and any fund
(including a money market fund) would be
permitted to disclose its tax-equivalent yield.
When yield information is disclosed, a fund
(continued...)
==========================================START OF PAGE 45======
to the returns of a broad-based securities market
index.-[73]- Requiring comparative return information
for a broad-based securities market index would provide
investors with a basis for evaluating a fund's performance and
risks relative to the market.-[74]- The proposed
approach also would be consistent with the line graph
presentation of fund performance required in MDFP
disclosure.-[75]-
-[72]-(...continued)
would be required to include a telephone number
that investors can use without charge to obtain
current yield information.
-[73]- A fund's average annual returns would be
calculated using the same method required to
calculate fund performance included in
advertisements, which reflects the payment of
sales loads and recurring shareholder account
fees. Instruction 2(a) to proposed Item 2(c)(2)
(incorporating the requirements of proposed
Item 21). See also proposed Item 5 (requiring
sales loads and recurring shareholder account
fees to be reflected in the return information
shown in the MDFP line graph). Consistent with
the preparation of the MDFP line graph, if a
fund has not had the same adviser for the last
10 years, the fund would be permitted to begin
the bar chart and performance information in the
table on the date the new adviser began to
provide advisory services to the fund so long as
certain conditions are met.
-[74]- See MDFP Adopting Release, supra note 14, at
19054. Consistent with the preparation of the
MDFP line graph, if a fund changes indexes, the
fund would be required to explain the reasons
for the change and provide information for both
the newly selected and the former index.
-[75]- See Instruction 5 to proposed Item 5(b)
(defining "appropriate broad-based securities
market index"). See also 1996 Profile Letter,
(continued...)
==========================================START OF PAGE 46======
Consistent with the requirements for preparing the MDFP
line graph, the proposed amendments would allow a fund to
include return information for other indexes, including a
"peer group" index of comparable funds.-[76]- Focus
Group participants indicated that comparing fund returns to a
broad-based securities market index and a peer group index
could be useful in evaluating and comparing fund
investments.-[77]-
-[75]-(...continued)
supra note 16, at 3 (permitting a fund, at its
option, to compare its returns to those of an
appropriate broad-based securities market
index).
-[76]- If an additional index is included, the fund
would be required to discuss the additional
index in the narrative explanation accompanying
the bar chart and table. Instruction 2(b) to
proposed Item 2(c)(2).
-[77]- Other commenters have suggested different ways
to provide comparative return information. See
Letter from John C. Bogle, Chairman of the
Board, The Vanguard Group, to Jonathan G. Katz,
Secretary, SEC, at 3 (July 28, 1995) (File
No. S7-10-95) (recommending disclosure of fund
and market index returns on a quarterly basis
over a 10-year period); Letter from Daniel
Pierce, Chairman of Board, Scudder, Stevens &
Clark, Inc., to Jonathan G. Katz, Secretary,
SEC, at 2 (July 28, 1995) (recommending that a
fund's returns be compared to both a benchmark
index (e.g., the S&P 500) and a risk-free
measure (e.g., the yield on 3-month U.S.
Treasury bills)); ICI Survey Letter, supra
note 39, at 8-9 (recommending that a fund be
permitted to show either a broad-based market
index or an appropriate index of fund
performance).
==========================================START OF PAGE 47======
The Commission believes that a comparison of a fund's
performance to a broad-based securities market index can
assist investors in evaluating the risk of a fund investment.
The proposed amendments would include this information in the
table accompanying the bar chart to minimize the complexity of
the graphic presentation of a fund's risks and returns. The
Commission recognizes that other presentations could improve
fund risk disclosure and requests comment on alternative
approaches.-[78]- Specifically, the Commission requests
comment on requiring the annual returns of a broad-based
securities market index (and any optional peer group or other
index) to appear in the bar chart instead of the table. By
providing investors with a graphic illustration of the
relationship between the returns of the fund and the
index(es), this approach could help investors evaluate the
comparative risk of the fund and the index(es). Including
additional bars or lines for index comparisons in the bar
chart, however, could complicate the chart (especially if the
chart included return information for more than one fund) and
make it difficult for investors to follow.
As an alternative to, or in addition to the bar chart, the
Commission requests comment on requiring a fund to show its
-[78]- Focus Group participants did not express a
preference as to the placement of this
information in the bar chart or accompanying
table.
==========================================START OF PAGE 48======
highest and lowest annual returns (or "range" of returns) over
a ten-year or other period compared with the same information
for a broad-based market index (and any optional peer group or
other index). This information, which could be presented as a
separate table or included in the proposed table showing a
fund's average annual returns, could help investors assess
fund risks.
3. Item 3 -- Risk/Return Summary: Fee Table
Form N-1A would continue to require a fee table in the
prospectus, which summarizes the sales loads and expenses
associated with an investment in a fund. The fee table seeks
to provide uniformity, simplicity, and comparability in fee
disclosure.-[79]- Consistent with this objective, the
Commission is proposing several amendments designed to improve
fee table disclosure.
a. Fee Table Example
Form N-1A requires an "Example" to accompany the fee table
that discloses the cumulative amount of fund expenses over
one, three, five, and ten year periods based on a hypothetical
-[79]- See Fee Table Adopting Release, supra note 14,
at 3194.
==========================================START OF PAGE 49======
investment of $1,000 and an annual 5% return. The Example
primarily is intended to provide information about the cost of
investing in one fund that can be compared with similar
information about another fund.-[80]- Focus Group
participants, however, had difficulty understanding and using
the information in the Example.
-[80]- Id. (also noting that the Example provides
information about the cost of a fund
investment).
==========================================START OF PAGE 50======
The proposed amendments seek to improve the Example by
requiring a fund to provide a specific narrative description
that explains the purpose of the information presented. The
revised Form would require a narrative explanation to the
following effect:
This Example is intended to help you compare the cost of
investing in the fund to the cost of investing in other
mutual funds.-[81]-
To further assist investors in understanding the Example, the
proposed amendments would revise the description of how the
Example is calculated.-[82]-
The proposed amendments also would increase the initial
hypothetical investment in the Example from $1,000 to $10,000.
-[81]- Like the current Form, the proposed amendments
would require a fund that charges sales loads on
reinvested dividends to disclose that these
loads are not reflected in the Example and that,
if the loads were included, the expenses
reflected in the Example would be higher.
Instruction 4(d) to proposed Item 3 would
require this disclosure to follow the Example to
avoid informing investors about what is not
included in the Example before they have an
opportunity to review what is included.
-[82]- See proposed Item 3. Instruction 4(a) to
proposed Item 3 also would permit a fund to
adjust the expenses included in the Example to
reflect the completion of the amortization
period for expenses associated with the initial
organization of the fund. See Money Market Fund
Prospectus Release, supra note 14, at 38458
(proposing this change).
==========================================START OF PAGE 51======
The increase is intended to reflect a typical fund investment
(many funds have minimum investments exceeding $1,000) and
more closely approximate the amount of expenses that may be
paid over time.-[83]- Using the $10,000 figure in the
Example also would be consistent with the $10,000 hypothetical
initial account value used in the MDFP line graph.-[84]-
The Commission requests comment on the proposed
amendments. The Commission also requests comment whether the
Example communicates useful information to investors and,
specifically, whether the Example should continue to be
required. The Commission requests comment about other ways to
provide information that investors can use to compare the
costs of fund investments.
-[83]- See Letter from John C. Bogle, Chairman of the
Board, The Vanguard Group, to Barry P. Barbash,
Director, Division of Investment Management, SEC
(Sept. 16, 1996) (suggesting that few investors
have as little as $1,000 invested in a given
fund, and that the average fund investment
typically amounts to $10,000-25,000, with the
median investment probably in the range of
$6,000-7,000).
-[84]- See proposed Item 5(b).
==========================================START OF PAGE 52======
b. Shareholder Account Fees
Instructions to the fee table require a fund to include,
under the caption "Other Expenses," fees that are charged to
all shareholder accounts.-[85]- Funds that have account
fees (e.g., account maintenance fees) typically charge these
fees as a fixed dollar amount and disclose the fees in a
separate line item to the fee table.-[86]- Because
account fees are paid directly by shareholders and are not
fund operating expenses, the proposed amendments would create
a new line item in the shareholder transaction section of the
fee table that would describe the type of account fees charged
by a fund.-[87]- Like the fee table requirements
applicable to sales loads, the proposed amendments would
-[85]- Instruction 10 to Item 2(a).
-[86]- Certain funds charge shareholder account fees as
a percentage of assets invested. A small number
of funds charge account fees based on the fund's
average net assets.
-[87]- Instruction 2(d) to proposed Item 3. This
Instruction would address when account fees must
be included in the fee table. For example,
account fees would be required in the fee table
even if a fund waived the fees for certain
shareholders, such as employees of the fund's
investment adviser and investors with large
account balances. In certain circumstances,
case-by-case determinations would continue to be
made regarding the inclusion (or exclusion) of
account fees from the fee table based on the
number and type of shareholders subject to the
fee and the services provided.
==========================================START OF PAGE 53======
require a fund to show the maximum account fee
imposed.-[88]-
c. Improving and Simplifying Fee Table Presentation
Fee Table Narrative. Form N-1A requires a fund to provide
a narrative description following the fee table explaining the
purpose of the table.-[89]- To help investors use the
information presented, the proposed amendments would require
the narrative explanation to appear before (rather than after)
-[88]- If an account fee is charged only to accounts
that do not meet a certain threshold (e.g.,
accounts under $2,500) or if an account fee is
non-recurring (e.g., it is paid to open or close
an account), a fund would be permitted to
disclose the threshold or the type of fee
imposed in a parenthetical to the caption or in
a footnote to the fee table.
In computing the expenses shown in the Example,
Instruction 4(d) to proposed Item 3 would allow the
allocation of account fees when they are charged to invest
in more than one fund. See Money Market Fund Prospectus
Release, supra note 14, at 38461 (proposing this change).
In addition, a fund that charges account fees based on a
minimum investment requirement would be permitted to
prorate its account fees for purposes of the Example if
the fund's minimum account requirement exceeds $10,000
(the proposed hypothetical investment). For instance,
adjusting an account fee of $100 to $50 would be
appropriate to avoid overstating the fee in the Example
when the fund's minimum investment requirement is $20,000.
-[89]- Instruction 1 to Item 2(a).
==========================================START OF PAGE 54======
the fee table and to include disclosure to the following
effect:
This table describes the fees and expenses you may pay in
connection with an investment in the fund.
New Fee Table Headings and Captions. The fee table is
divided into two sections: "Shareholder Transaction Expenses"
and "Annual Fund Operating Expenses." Captions beneath the
two general headings list the fees that make up transaction
and operating expenses. The general heading for the
shareholder transaction section of the fee table refers to
shareholder transaction "expenses" and captions underneath
this heading refer to sales "loads" and redemption and
exchange "fees." The proposed amendments would revise the
shareholder transaction section so that the general heading
and captions consistently refer to "fees." As a result of
this change, captions relating to sales loads would refer to
"sales fees." Since some investors are familiar with the term
"load" and many funds use the term "no load" in marketing
materials, however, these captions would include the term
"load" in parentheses (e.g., "Maximum Sales Fee (Load) Imposed
on Purchases").-[90]-
-[90]- See ICI Survey Letter, supra note 39 (changing
the caption from "sales load" to "sales charge,"
without using the term "load").
==========================================START OF PAGE 55======
The proposed amendments also would revise the caption
"12b-1 Fees," which includes any distribution and other
expenses a fund pays under a rule 12b-1 plan.-[91]- The
proposed amendments would change the caption to "Marketing
(12b-1) Fees."-[92]- Retaining the designation "12b-1"
would enable investors familiar with rule 12b-1 plans to
identify those fees in the fee table. The Commission requests
comment whether another caption (e.g., "Distribution (12b-1)
Fees") would be more appropriate.
To help explain the difference between the fees paid by
shareholders and expenses paid by the fund, the proposed
amendments would require the following parentheticals after
each heading: "Shareholder Fees (fees paid directly from your
account)" and "Annual Fund Operating Expenses (expenses that
are deducted from the fund's assets)."-[93]-
Fee Schedules. Instructions to the fee table permit a
fund to include a tabular presentation within the fee table
that shows a range of deferred sales loads over time and a
-[91]- 17 CFR 270.12b-1.
-[92]- Focus Group participants indicated that the term
"marketing fees" would help them understand the
expenses included in the line item.
-[93]- See ICI Survey Letter, supra note 39 (enclosing
a prototype profile that includes similar
explanatory information).
==========================================START OF PAGE 56======
range of exchange fees.-[94]- Since the presentation of
a table within the larger fee table tends to complicate the
fee disclosure and may discourage investors from reviewing the
information presented, the proposed amendments would no longer
permit this disclosure in the fee table. Like the current
Form, the proposed amendments would continue to permit a fund
to explain the range of deferred sales loads or exchange fees
in a footnote.-[95]-
Expense Reimbursement and Fee Waiver Arrangements.
Instructions to the fee table require a fund that has an
expense reimbursement or fee waiver arrangement to reflect the
arrangement in the fee table if the reimbursement or waiver
will continue.-[96]- The proposed amendments would
clarify that a fund is required to reflect expense
reimbursement and fee waiver arrangements without regard to
-[94]- Instructions 5 and 7 to Item 2(a).
-[95]- Instructions 2(a)(i) and 2(c) to proposed
Item 3. The GCLs require a fund to disclose
wire redemption charges in a footnote to the fee
table. 1991 GCL, supra note 28, at II.G. Given
the small amount of these fees (typically $5 to
$10 per redemption) and since these fees are
charged only when shareholders elect to receive
redemption proceeds by wire, the proposed
amendments would not require disclosure of wire
redemption charges in the fee table. A fund may
include this disclosure in a footnote to the
table or together with other prospectus
disclosure regarding redemption procedures.
-[96]- Instruction 13 to Item 2(a).
==========================================START OF PAGE 57======
whether the arrangement has been guaranteed for a full fiscal
year.-[97]- This approach is intended to assure that
investors are informed about decreases in expense
reimbursement and fee waiver arrangements that could affect
the fund's performance.
Other Expenses. Instructions to the fee table permit a
fund to subdivide the line item for "Other Expenses" into 3
subcategories of its own choosing.-[98]- Since some
funds identify the fees that make up this line item by adding
a parenthetical following the "Other Expenses" caption, the
proposed amendments would permit a fund to identify the
expenses that comprise this line item either under separate
subcaptions or in a parenthetical following the "Other
Expenses" caption.-[99]- When subcaptions are provided,
the proposed amendments would clarify that the subcaptions
must identify the 3 largest expenses that comprise "Other
Expenses."
-[97]- Instruction 3(e) to proposed Item 3. See Money
Market Fund Prospectus Release, supra note 14,
at 38458 (proposing this clarification).
-[98]- Instruction 10(b) to Item 2(a).
-[99]- Instruction 3(c)(iii) to proposed Item 3.
==========================================START OF PAGE 58======
4. Item 4 -- Investment Strategies and Risk Disclosure
Prospectus disclosure about fund investments and risks
typically consists of descriptions of each type of security in
which a fund may invest and the risks associated with those
securities. The investments described often include
instruments, such as illiquid securities, repurchase
agreements, and options and futures contracts, that do not
have a significant role in achieving a fund's investment
objectives. Disclosing information about each type of
security in which a fund might invest does not appear to help
investors evaluate how the fund's portfolio will be managed or
the risks of investing in the fund. This disclosure also adds
substantial length and complexity to fund prospectuses,
contributing to investor perceptions that prospectuses are too
complicated and discouraging investors from reading a fund's
prospectus.-[100]-
The Commission believes that prospectus disclosure would
be more useful to investors if it emphasized the principal
investment strategies of a fund and the principal risks of
investing in the fund, rather than the characteristics and
-[100]- See Money Market Fund Prospectus Release, supra
note 14, at 38456 (giving examples of lengthy
and technical disclosure about portfolio
holdings frequently found in money market fund
prospectuses).
==========================================START OF PAGE 59======
risks of each type of instrument in which the fund may
invest.-[101]- Since funds are intended to offer
investors professional investment management,-[102]-
the focus of investment disclosure should be on the fund's
investment objectives and the principal means used by the
fund's adviser to achieve those objectives. Consistent with
this view, the proposed amendments seek to encourage
prospectus disclosure that would help investors understand how
a fund's portfolio will be managed. The proposed amendments
are designed to be consistent with, and to implement more
effectively, the Commission's intention in adopting Form N-1A
that the prospectus should describe a fund's "fundamental
characteristics."-[103]-
-[101]- The ICI has recommended that prospectus
disclosure focus primarily on a fund's broad
investment objectives, practices, and associated
risks, and not on particular types of securities
in which the fund invests. See, e.g., Letter
from Paul Schott Stevens, General Counsel, ICI,
to Jonathan G. Katz, Secretary, SEC, at 4-6
(July 28, 1995) ("1995 ICI Risk Comment
Letter"); Letter from Amy B.R. Lancellotta,
Associate Counsel, ICI, to C. Gladwyn Goins,
Associate Director, Division of Investment
Management, SEC, at 7 (Mar. 7, 1995) ("1995 ICI
Disclosure Letter").
-[102]- See, e.g., 1 T. LEMKE, G. LINS & A.T. SMITH III,
REGULATION OF INVESTMENT COMPANIES 1.01,
at 1-1 (1996).
-[103]- See Form N-1A Proposing Release, supra note 13,
at 815; Form N-1A Adopting Release, supra
note 12, at 39729. See also Money Market Fund
Prospectus Release, supra note 14 (proposing
amendments that would permit money market funds
to include in their prospectuses "basic, general
(continued...)
==========================================START OF PAGE 60======
a. Investment Objectives and Implementation of
Investment Objectives
To assist investors in identifying funds that meet their
investment needs, the proposed amendments, like the current
Form, would require prospectus disclosure of a fund's
investment objectives.-[104]- The proposed amendments,
however, would change the disclosure requirements regarding
how a fund intends to achieve its investment objectives. Form
N-1A currently requires a fund to disclose the types of
securities in which it invests or will invest principally as
well as any "special investment practices and techniques" that
will be used in connection with investing in those
securities.-[105]- Form N-1A also requires disclosure
-[103]-(...continued)
statements about their investment objectives and
portfolio composition").
-[104]- Proposed Item 4(a). A fund may refer to its
investment objectives as investment goals. If a
fund's investment objectives can be changed
without a shareholder vote, the proposed
amendments would continue to require disclosure
of this fact in the prospectus. Although not
required by Form N-1A, some funds disclose in
the prospectus that their investment objectives
may not be changed without a shareholder vote.
Since investors generally do not expect fund
investment objectives to change, this disclosure
does not appear to help investors evaluate and
compare funds. This disclosure would be moved
to the SAI and proposed Item 12(c)(1)(vii) would
require a fund to disclose when its investment
objectives may not be changed without a
shareholder vote.
-[105]- Item 4(a)(ii)(B)(1).
==========================================START OF PAGE 61======
about "significant investment policies or techniques" that a
fund intends to use, subject to certain
limitations.-[106]-
One of those limitations directs a fund to limit
prospectus disclosure about practices that place no more than
5% of a fund's assets at risk.-[107]- Many funds
disclose in their prospectuses information about securities
and investment practices that do not and may not ever place
more than 5% of a fund's assets at risk, often to retain the
flexibility to exceed the 5% threshold in the
future.-[108]-
-[106]- Item 4(a)(ii)(D).
-[107]- Item 4(b)(ii). Item 4(b)(i) directs a fund not
to disclose so-called "negative" practices
(i.e., practices in which a fund may not or does
not intend to engage). Instruction 3 to
proposed Item 4(b)(1) would retain this
limitation by providing that a negative strategy
is not a principal strategy. Avoiding
disclosure about negative strategies should help
keep prospectus disclosure focused on what the
fund will do to achieve its investment
objectives, rather than on what the fund will
not do.
-[108]- A fund, within a short period of time, may
increase its holdings of a particular type of
security from less than 5% of its assets to more
than 5%, which, under the current Form, requires
a different level of disclosure about the
security. To avoid having to amend their
prospectuses in response to changes in portfolio
holdings, many funds include information in
their prospectuses about any security or
strategy that might at some point place more
than 5% of the fund's assets at risk.
==========================================START OF PAGE 62======
The proposed amendments would eliminate the 5% standard.
Instead, the revised Form would require a fund to disclose in
the prospectus the principal strategies to be used to achieve
its investment objectives, including the particular type or
types of securities in which the fund will invest
principally.-[109]- This approach is designed to shift
prospectus disclosure away from an inventory of the various
investments a fund may make and to focus disclosure on a
fund's overall portfolio management. Whether a particular
strategy (including a strategy to invest in a particular type
of security) would constitute a principal strategy that must
be disclosed in the fund's prospectus would depend upon the
strategy's anticipated importance in achieving the fund's
investment objectives and how the strategy affects the fund's
potential risks and returns.-[110]- In determining
what is a principal strategy, a fund would consider, among
other things, the amount of assets expected to be committed to
the strategy, the amount of assets expected to be placed at
risk by the strategy, and the likelihood of losing some or all
of those assets.-[111]- The proposed amendments would
-[109]- Proposed Item 4(b)(1). A bond fund, for
example, typically would discuss the maturities,
durations, ratings, and issuers of the bonds in
which the fund principally invests.
-[110]- Instruction 1 to proposed Item 4(b)(1) would
define a strategy to include any policy,
practice, or technique used to achieve a fund's
investment objectives.
-[111]- Instruction 2 to proposed Item 4(b)(1).
==========================================START OF PAGE 63======
require disclosure about non-principal strategies to appear in
the SAI.-[112]-
Focusing disclosure requirements on a fund's principal
strategies is intended to improve prospectus disclosure by
eliminating the need for disclosure about securities and
strategies that do not have an important role in achieving the
fund's investment objectives. Under the revised Form, for
example, it generally would be unnecessary to include in the
prospectus disclosure about a fund's cash management practices
(e.g., entering into overnight repurchase agreements) since
these practices are not typically among a fund's principal
strategies.-[113]-
To further focus prospectus disclosure on a fund's
principal strategies, the proposed amendments would require
the prospectus to explain in general terms how the fund's
-[112]- Proposed Item 12(b).
-[113]- Similarly, in most cases, a fund would be able
to move to the SAI disclosure about hedging
strategies that limit downside risk, securities
lending, purchasing securities on a
"when-issued" basis, short selling "against the
box" to defer recognition of gains or losses,
and investing in illiquid or restricted
securities, since these strategies typically are
not principal strategies.
==========================================START OF PAGE 64======
adviser decides what securities to buy and sell.-[114]-
This disclosure is intended to provide investors with general
information about the fund's investment approach and how the
fund's portfolio will be managed. The information might
describe, for example, whether an equity fund emphasizes value
or growth, or blends the two approaches, or whether the fund
invests in stocks based on a "top-down" analysis of economic
trends or a "bottom-up" analysis that focuses on the financial
condition and competitiveness of individual
companies.-[115]-
Concentration. Form N-1A requires a fund to disclose in
its prospectus any policy to concentrate (i.e., invest 25% or
more of its total assets) in a particular industry or group of
industries. The proposed amendments would retain this
requirement since concentrating in an industry or group of
-[114]- Proposed Item 4(b)(2). The prospectus of a
value-oriented fund might state, for example,
that the fund's adviser selects stocks it
considers to be undervalued by recognized
measures of economic value such as earnings,
cash flow, and book value. A growth and income
fund might state that it invests in the stock of
issuers whose earnings have increased from year
to year and issuers that have paid dividends
continuously for a certain period of time.
-[115]- Because proposed Item 4(b)(2) would require the
prospectus to explain in general terms how the
fund's adviser decides what securities to buy
and sell, a fund (or its adviser) would not be
required to provide proprietary information
about its investment strategies.
==========================================START OF PAGE 65======
industries is likely to be a principal strategy in achieving a
fund's investment objectives.-[116]- The proposed
amendments also would continue to require a single state money
market fund to discuss its concentration in securities issued
by a particular state or by issuers located within a state.
Temporary Defensive Positions. Many funds adopt policies
permitting them to take "temporary defensive positions" to
avoid losses in response to adverse market, economic,
political, or other conditions. When a fund assumes a
temporary defensive position, the fund may depart from its
usual investment strategies without a shareholder vote or
specific notice to shareholders. The GCLs require a fund to
disclose, if applicable, certain information about the
possibility of taking temporary defensive
positions.-[117]-
The proposed amendments would continue to require
disclosure about temporary defensive positions to alert
investors of potential changes in a fund's
investments.-[118]- In particular, the proposed
-[116]- Proposed Item 4(b)(3).
-[117]- 1994 GCL, supra note 28, at II.E.
-[118]- Proposed Item 4(e). See also Fund Names
Release, supra note 2 (permitting a fund with a
name suggesting that the fund focuses on a
(continued...)
==========================================START OF PAGE 66======
amendments would require a fund to disclose the percentage of
its assets that may be committed to temporary defensive
positions (e.g., up to 100% of the fund's assets), the risks,
if any, associated with the positions, and the likely effect
of these positions on the fund's performance. The Commission
requests comment on requiring this information given the
temporary nature of defensive positions and the proposed
approach of focusing prospectus disclosure on a fund's
principal strategies.-[119]-
Portfolio Turnover. The Guides require a fund that has
had in the past year, or anticipates having, a portfolio
turnover rate of approximately 100% or more to disclose in the
prospectus any tax and brokerage consequences that will result
from the fund's "high" portfolio turnover rate.-[120]-
The proposed amendments would require prospectus disclosure
only when a fund anticipates having a portfolio turnover rate
-[118]-(...continued)
particular type of investment to make other
investments while assuming a temporary defensive
position).
-[119]- In light of these considerations, the revised
Form, unlike the 1994 GCL, supra note 28, would
not require a fund to disclose the types of
securities in which it may invest while taking a
temporary defensive position.
-[120]- Guide 5.
==========================================START OF PAGE 67======
of 100% or more in the coming year.-[121]- This
approach is designed to focus prospectus disclosure on a
fund's expected portfolio practices, not past
practices.-[122]-
The proposed amendments would require disclosure of the
fund's anticipated portfolio turnover rate and what that rate
means (e.g., that a portfolio turnover rate of 200% is
equivalent to the fund buying and selling all of the
securities in its portfolio twice in the course of a
year).-[123]- Disclosing the anticipated turnover rate
and explaining its meaning are intended to enable investors to
evaluate how actively a fund buys and sells portfolio
-[121]- Proposed Item 4(b)(4). A fund that expects its
portfolio turnover rate to be less than 100%
would continue to be required to disclose the
anticipated rate of its portfolio turnover in
the SAI. As under the current requirements, a
money market fund would not be required to
discuss portfolio turnover in either the
prospectus or the SAI. See MDFP Adopting
Release, supra note 14, at 19051 n.3.
-[122]- Information about a fund's portfolio turnover
rate in previous fiscal years is disclosed in
the financial highlights table. See proposed
Item 9.
-[123]- Like any other fund, a "balanced" fund would
discuss its anticipated turnover rate with
respect to its entire portfolio. Guide 5, in
contrast, requires a balanced fund to discuss
portfolio turnover separately for the stock and
bond portions of the fund's portfolio.
==========================================START OF PAGE 68======
securities and to compare the anticipated portfolio turnover
rates of different funds.
The proposed amendments also would require a fund to
explain the tax consequences to shareholders of the fund's
high portfolio turnover rate. In addition, the proposed
amendments would require a fund to explain how trading costs
associated with the fund's high portfolio turnover may affect
the fund's performance.
The Commission requests comment on the proposed
requirements. In particular, the Commission requests comment
whether a fund with a portfolio turnover rate of 100% should
be viewed as having a high portfolio turnover rate. An
informal review by the Division of fund portfolio turnover
rates suggests that nearly half of all funds have portfolio
turnover rates exceeding 100%. The Commission also requests
comment whether specific information about portfolio turnover
should be required in connection with prospectus disclosure
about a fund's investment strategies. In response to current
disclosure requirements, for example, funds often make generic
statements that do not appear to help investors evaluate and
compare fund investments.-[124]-
-[124]- Prospectuses, for example, state that high
portfolio turnover rates will likely result in
higher transaction costs and may increase
taxable gains.
==========================================START OF PAGE 69======
Classification and Subclassification. All funds that
register on Form N-1A are classified as management companies
and subclassified as open-end companies under sections 4 and 5
of the Investment Company Act.-[125]- Funds may be
further subclassified as diversified or non-diversified under
section 5. Form N-1A requires a fund to disclose its
classification and subclassifications in the
prospectus.-[126]-
The proposed amendments would move to the SAI disclosure
about a fund's legal status as an open-end management
company.-[127]- This information is technical and
repetitive of information required to be disclosed in the
prospectus. A fund's classification as a management company
is communicated to investors through disclosure about the
fund's investment adviser and portfolio management. A fund's
open-end status is communicated through disclosure about the
redeemability of the fund's shares.
The proposed amendments also would move to the SAI
disclosure that a fund is diversified under section 5. Since
most funds are diversified, this information (which often
-[125]- See 15 U.S.C. 80a-4, -5.
-[126]- Item 4(a)(i)(B).
-[127]- Proposed Item 12(a).
==========================================START OF PAGE 70======
includes a technical description of the diversification
requirements under the Investment Company Act) does not appear
to provide investors with useful information about a
particular fund. A non-diversified fund would continue to be
required to disclose its non-diversified status in the
prospectus.-[128]- To avoid technical disclosure, the
proposed amendments would require a non-diversified fund to
describe the effects of non-diversification (e.g., by
indicating that, compared to diversified funds, the fund may
invest a greater percentage of its assets in a particular
issuer) and to disclose the risks of investing in the fund.
Section 8 Policies. Section 8 requires a fund to disclose
in its registration statement the fund's policies with respect
to borrowing money, issuing senior securities, underwriting
securities issued by other persons, investing in real estate
or commodities, and making loans.-[129]- Most funds do
not engage in these practices to a significant extent, because
-[128]- Proposed Item 4(d).
-[129]- 15 U.S.C. 80a-8. Section 8 also requires a fund
to disclose in the registration statement its
policies on concentration and portfolio
turnover, see supra note 121 and accompanying
text, and any other policies that the fund deems
fundamental or that may not be changed without
shareholder approval.
==========================================START OF PAGE 71======
the Investment Company Act limits their use by
funds.-[130]- Although they are not required to do so,
some funds disclose in the prospectus their policies with
respect to the practices identified under section
8.-[131]- To provide a clearer directive to disclose
this information in the SAI, the proposed amendments
specifically would require disclosure about these policies in
the SAI.-[132]-
b. Risk Disclosure
Risk disclosure in fund prospectuses typically consists of
detailed, and often technical, descriptions of the risks
associated with particular securities in which a fund may
invest. Just as disclosure about each type of security in
which a fund may invest does not appear to effectively
communicate how the fund's portfolio will be managed,
disclosure about the risks associated with each type of
security in which the fund may invest does not appear to
-[130]- See, e.g., section 18(f) [15 U.S.C. 80a-18(f)]
(limiting a fund's ability to issue senior
securities and borrow money); section 12(c)
[15 U.S.C. 80a-12(c)] (limiting the underwriting
practices of a diversified fund).
-[131]- See Items 4(a)(ii)(C), 4(b); Guides 3, 14.
-[132]- Proposed Item 12(c). If a policy specified in
section 8 is a principal strategy, Instruction 4
to proposed Item 4(b)(1) would require the fund
to disclose the policy in the prospectus.
==========================================START OF PAGE 72======
effectively communicate the overall risks of investing in the
fund. Disclosing the risks of each portfolio investment,
rather than the overall risks of investing in a fund, does not
appear to help investors evaluate a particular fund or compare
the risks of different funds.
Consistent with the proposal to shift prospectus
disclosure away from an inventory of the various securities
that may be held by a fund, the proposed amendments would
revise Form N-1A to shift prospectus disclosure away from the
risks associated with specific securities. The revised Form
would require a fund to disclose the risks to which the fund's
particular portfolio as a whole is expected to be
subject.-[133]- As part of this disclosure, a fund
would be required to discuss the circumstances that are
reasonably likely to affect adversely the fund's net asset
value, yield, or total return.
The proposed approach is intended to improve fund risk
disclosure. Comments from both individual investors and
-[133]- Proposed Item 4(c). See supra note 101. The
requirement that a fund disclose the risks to
which its particular portfolio as a whole is
subject is intended to elicit risk disclosure
specific to that fund. In meeting this
requirement, a growth fund, for example, would
have to disclose the risks of the growth stocks
in which the fund invests as opposed to
describing the general risks of equity
securities.
==========================================START OF PAGE 73======
members of the fund industry responding to the Risk Concept
Release strongly supported improving narrative discussions of
fund risks. In a survey of fund investors sponsored by the
ICI ("ICI Risk Survey"), respondents were asked to consider
various methods that could be used to describe risk and
expressed the greatest overall confidence about using
narrative information.-[134]-
The Risk Concept Release requested comment whether
quantitative risk measures, such as standard deviation, beta,
and duration, would help investors evaluate and compare fund
risks.-[135]- While more than half of the individual
commenters and some industry members expressed a desire for
some form of quantitative risk information, commenters did not
broadly support any one risk measure. In addition, a number
of commenters strongly opposed requiring disclosure of
quantitative risk information.-[136]- These
-[134]- ICI Risk Survey, supra note 26, at 21, 37.
-[135]- Risk Concept Release, supra note 18, at 17176.
Standard deviation measures the volatility of a
fund's total return; beta measures the
sensitivity of a fund's total return to the
market's performance; and duration measures the
sensitivity of a bond fund's return to changes
in interest rates. Id. at 17174-76.
-[136]- See, e.g., 1995 ICI Risk Comment Letter, supra
note 101, at 10-16 (questioning, among other
things, the feasibility of developing a single,
all-encompassing measure of fund risks and
whether quantitative information would be
(continued...)
==========================================START OF PAGE 74======
commenters, among other things, questioned the value of
quantitative risk measures, suggesting that investors have too
wide a range of investment goals and ideas of what "risk"
means to be well-served by a single quantitative risk
measure.-[137]- The ICI Risk Survey suggests that
investors who use quantitative measures may not understand the
measures well enough to use them for the special purposes for
which they were designed.-[138]-
Based on these and other considerations, the Commission is
not proposing at this time to require funds to use
quantitative risk measures. The proposed prospectus
risk/return summary and the proposed amendments to the
narrative discussion of risk within the prospectus are
designed to improve fund risk disclosure, without raising the
issues associated with Commission-mandated quantitative
-[136]-(...continued)
understood and accurately used by fund
investors).
-[137]- See also P. Bernstein, AGAINST THE GODS: THE
REMARKABLE STORY OF RISK 269-303 (1996)
(suggesting it is inaccurate to assume that
investors evaluate investments based on risk and
return and that investors' attitudes towards
risk may overrule a decision that may be
appropriate based on quantitative measures).
-[138]- ICI Risk Survey, supra note 26, at 14-18 (e.g.,
45% of respondents who had used duration, 44% of
those who used standard deviation, and 23% of
those who used beta reported using these
measures to estimate future performance).
==========================================START OF PAGE 75======
information. The Commission's determination not to require
quantitative risk information is not intended to suggest,
however, that this information is not useful to some
investors. Funds that wish to include quantitative risk
disclosure in their prospectuses may continue to do so.
5. Item 5 -- Management's Discussion of Fund
Performance
The proposed amendments would continue to require a fund
to provide its MDFP and the related line graph comparing the
fund's returns to a broad-based securities market index in
either the prospectus or the annual report. The Division's
review of and experience with MDFP disclosure indicates that
the discussion of fund performance and the line graph have
been successful in providing fund shareholders with useful,
comparative information about a fund's performance. Other
than technical and conforming changes, the proposed amendments
would not modify these disclosure requirements.
Funds typically include the MDFP in their annual reports,
rather than in their prospectuses, which may be, in part, due
to the relevance of the MDFP to other current financial
information appearing in annual reports. As a result of
recent legislation, the Commission has more flexibility to
specify the content of annual reports and to require
==========================================START OF PAGE 76======
additional disclosure in annual and semi-annual reports as
necessary or appropriate in the public interest or for the
protection of investors.-[139]- The Commission is not
proposing to modify fund shareholder report disclosure
requirements in this release, but recognizes that revisions to
shareholder report requirements could further enhance the
disclosure provided to fund investors. The Division currently
is evaluating whether funds should be required to include the
MDFP in the annual report. The Division also is considering
whether certain disclosure required by Form N-1A would be more
useful to investors in shareholder reports. An "integrated"
approach to registration and reporting requirements could
improve the overall information about a fund available to
investors.-[140]- Shareholder reports, for example,
-[139]- National Securities Markets Improvement Act of
1996, Pub. L. No. 104-290 (1996) (the "1996
Securities Act"), section 206(f) (amending
section 30 of the Investment Company Act
[15 U.S.C. 80a-29] to add new paragraph (f)).
-[140]- In the past, the concept of "integrated"
disclosure for funds has addressed eliminating
duplicative registration requirements under the
Investment Company Act and the Securities Act.
See Investment Company Act Release No. 10378
(Aug. 28, 1978) [43 FR 39548] ("Integrated
Registration Statement Release") (adopting
integrated registration statements for funds and
closed-end investment companies by replacing
separate registration statement forms under the
Investment Company Act and Securities Act). New
"integrated" disclosure initiatives for funds
could expand the concept of integrated
disclosure to include an approach similar to
that adopted for corporate issuers, which
integrates registration statement disclosure
(continued...)
==========================================START OF PAGE 77======
could disclose information about a fund's investments and
operations for a current period (such as information about the
fund's portfolio turnover or the tax consequences of investing
in the fund). Fund prospectuses could disclose more general
information about the fund's intended investments and
operations (such as its investment objectives, anticipated
risks, and fees). The Commission requests comment on specific
prospectus disclosure that could be more appropriately
disclosed in a fund's shareholder reports.
6. Item 6 -- Management, Organization, and Capital
Structure
a. Management and Organization
The proposed amendments would streamline the current
disclosure requirements concerning a fund's management and
organization. Consistent with the intent of Form N-1A to
provide investors with essential information about a fund, the
revised Form would require prospectus disclosure about the
fund's investment adviser, the advisory fee paid by the fund,
-[140]-(...continued)
requirements with periodic reports. See
Securities Act Release Nos. 6235 (Sept. 2, 1980)
[45 FR 63693] and 6383 (Mar. 3, 1982)
[47 FR 11386] (proposing and adopting new forms
for the offering of securities under the
Securities Act).
==========================================START OF PAGE 78======
and the person or persons primarily responsible for the
day-to-day management of the fund's portfolio.-[141]-
As in the current Form, the revised Form would require
prospectus disclosure of fees paid to any
sub-adviser.-[142]- The Commission requests comment
whether information about individual sub-advisory fees helps
investors evaluate and compare fund investments or whether
this disclosure obscures the aggregate investment advisory fee
associated with investing in a particular fund. The
Commission requests specific comment whether a fund should be
required to disclose only the fund's aggregate investment
advisory fee.
The revised Form would continue to require prospectus
disclosure of any material pending legal proceedings involving
the fund, investment adviser, or principal underwriter, which
would be incorporated in the management and organization Item
because the disclosure is related to the other management
information required to be disclosed.-[143]- The
-[141]- Proposed Items 6(a)(1), (2).
-[142]- See section 2(a)(20) [15 U.S.C. 80a-2(a)(20)]
(defining "investment adviser" to include a
sub-adviser).
-[143]- Item 9. The legal proceedings disclosure is
intended to be substantially the same as
Item 103 of Regulation S-K under the Securities
Act [17 CFR 229.103] and would be modified to
conform to Item 103. See Investment Company Act
(continued...)
==========================================START OF PAGE 79======
proposed amendments would modify or move to the SAI other
disclosure requirements relating to the management and
organization of a fund because this information generally is
common to all funds and does not appear to assist an investor
in evaluating a particular fund or comparing different funds.
Board of Directors. Form N-1A requires a fund's
prospectus to include a brief description of the
responsibilities of the fund's board of directors under the
applicable laws of the jurisdiction where the fund is
organized.-[144]- The proposed amendments would move
this disclosure to the SAI.-[145]- The
responsibilities of fund directors are governed by the
Investment Company Act and state law.-[146]- The
-[143]-(...continued)
Release No. 19155 (Nov. 30, 1992) [57 FR 56862]
(modifying Form N-2 to conform to Item 103).
-[144]- Item 5(a).
-[145]- Proposed Item 13(a).
-[146]- These responsibilities include, among other
things: (i) evaluating and approving the fund's
investment advisory and principal underwriting
contracts (sections 15(a), (c)
[15 U.S.C. 80a-15(a), (c)]) and the use of fund
assets to pay for the distribution of fund
shares (rule 12b-1); (ii) selecting the fund's
independent public accountants (section 32(a)(1)
[15 U.S.C. 80a-31(a)(1)]); and (iii) reviewing
and approving transactions with affiliates under
various rules (e.g., rule 10f-3
[17 CFR 270.10f-3]; rule 17a-7
[17 CFR 270.17a-7]; rule 17e-1
(continued...)
==========================================START OF PAGE 80======
summary, generic disclosure typically provided in fund
prospectuses about the responsibilities of directors does not
appear to assist an investor in deciding whether to invest in
a particular fund.
The Commission requests comment whether disclosure in the
prospectus of the names, experience, and compensation of a
fund's directors, along with an address, telephone number, or
other means to contact the directors would be more useful to
investors. The Commission also requests comment whether this
information should be given only for a fund's independent
directors, accompanied by disclosure of the number of
independent directors in relation to the number of directors
on the fund's board.-[147]- The Commission requests
-[146]-(...continued)
[17 CFR 270.17e-1]). Directors have fiduciary
duties to the fund and its shareholders under
section 36(a) of the Investment Company Act
[15 U.S.C. 80a-35(a)] and under state law. See
3 W. FLETCHER, CYCLOPEDIA OF THE LAW OF PRIVATE
CORPORATIONS 838 (rev. perm. ed. 1994); Hanson
Trust PLC v. ML SCM Acquisition, Inc.,
781 F.2d 264, 275 (2d Cir. 1986). See also
Burks v. Lasker, 441 U.S. 471 (1979) (upholding
the authority of independent directors to take
actions under state law to the extent not
inconsistent with the policies of the Investment
Company Act and the Investment Advisers Act of
1940 [15 U.S.C. 80b-1 et seq.] (the "Advisers
Act")).
-[147]- Section 10(a) of the Investment Company Act [15
U.S.C. 80a-10(a)] requires that at least 40% of
a fund's board of directors consist of
individuals who are not "interested persons," as
(continued...)
==========================================START OF PAGE 81======
specific comment whether information about a fund's directors
is essential information that should be required to be
disclosed in the prospectus to assist investors in deciding
whether to invest in a fund. The Commission also requests
specific comment whether information about the compensation
paid to directors warrants prospectus disclosure in light of
the relatively small portion of a fund's total expenses
represented by director compensation.
Controlling Persons. Form N-1A requires disclosure of the
name of any person that controls the fund's investment adviser
and the name of any person that controls the
fund.-[148]- The proposed amendments would no longer
require this information in the prospectus. Transactions
between controlling persons and a fund are subject to
restrictions under the Investment Company Act.-[149]-
When transactions with controlling persons are permitted, a
fund's board of directors is responsible for reviewing and
approving the arrangements.-[150]- Disclosure about
-[147]-(...continued)
defined in section 2(a)(19) [15 U.S.C.
80a-2(a)(19)].
-[148]- Items 5(b)(i) and 6(b).
-[149]- See, e.g., section 17 [15 U.S.C. 80a-17] and
rules 17a-6, 17d-1 [17 CFR 270.17a-6, .17d-1].
-[150]- See supra note 146.
==========================================START OF PAGE 82======
controlling persons of the investment adviser and the fund
would continue to be available in the SAI.-[151]-
Affiliated Brokers. Form N-1A requires a fund to state,
if applicable, that the fund engages in brokerage transactions
with affiliated persons and allocates brokerage transactions
based on the sale of fund shares.-[152]- The proposed
amendments would no longer require this disclosure in the
prospectus. The information called for by the Form typically
results in disclosure that restates applicable legal
requirements.-[153]- This type of generic disclosure
-[151]- Items 14(a), 15(a)(1). In addition, information
about any person who owns 10% or more of a
fund's voting stock is required to be disclosed
in a proxy statement seeking shareholder
approval of the fund's investment adviser, which
provides more timely information about the
possibility that a person could influence the
approval of the advisory contract.
Item 22(c)(4) of Schedule 14A
[17 CFR 240.14a-101] under the Securities
Exchange Act of 1934 [15 U.S.C. 78a et seq.]
(the "Securities Exchange Act").
-[152]- Item 5(g).
-[153]- Some funds, for example, state that an
affiliated broker may effect portfolio
transactions for the fund on an exchange or
board of trade, if the commissions, fees, or
other remuneration received by the affiliated
broker are reasonable and fair compared to the
commissions, fees, or other remuneration paid to
other brokers or futures commission merchants in
connection with comparable transactions
involving similar securities being purchased or
sold on an exchange or board of trade during a
comparable period of time. With respect to
(continued...)
==========================================START OF PAGE 83======
does not appear to assist investors in deciding whether to
invest in a particular fund. Payment of commissions to
affiliated brokers is governed by section 17(e) of the
Investment Company Act and rule 17e-1. In addition, the SAI
requires disclosure about affiliated brokers and how brokers
are selected to effect the fund's portfolio
transactions.-[154]-
Form of Organization. Form N-1A requires disclosure about
a fund's form of organization (along with the date) and state
of incorporation.-[155]- Since most funds are
organized in one of a few states as corporations or business
trusts that seek to provide limited liability to their
shareholders,-[156]- disclosure about a fund's
-[153]-(...continued)
allocation of brokerage transactions, funds
typically disclose that they may consider sales
of fund shares as a factor in selecting brokers
to execute portfolio transactions.
-[154]- Item 16. The Commission has undertaken
initiatives designed to improve disclosure about
fund brokerage transactions by requiring certain
expenses paid by directed brokerage to be
treated as an expense in a fund's financial
statements and fee table and by requiring
average commission rates to be disclosed in the
financial highlights information. Investment
Company Act Release No. 21221 (July 21, 1995)
[60 FR 38918].
-[155]- Item 4(a).
-[156]- See SEC, Division of Investment Management,
PROTECTING INVESTORS: A HALF CENTURY OF
(continued...)
==========================================START OF PAGE 84======
organization does not appear to help investors evaluate a
particular fund or compare different funds. The proposed
amendments would move this disclosure to the
SAI,-[157]- unless a fund is organized outside the
United States and registered under the Investment Company Act
pursuant to section 7(d).-[158]-
Expenses. Form N-1A requires a fund to provide a
statement about its expenses.-[159]- The proposed
amendments would no longer require this disclosure since it
duplicates information about the fund's expenses required in
the fee table. Expense information also would continue to be
-[156]-(...continued)
INVESTMENT COMPANY REGULATION, Investment
Company Governance 275 (May 1992) (reporting
that in 1991 over 84% of funds were organized as
Maryland corporations or Massachusetts business
trusts) (citing Lipper Analytical Services, The
"Form" Used by Mutual Funds to Organize State by
State (Mar. 1991) (survey prepared for the
ICI)).
-[157]- Proposed Item 11(a). Information about a fund's
operating history (including information about
the lack of an operating history for a newly
organized fund) would continue to be provided in
the bar chart, performance table, and the fee
table in the risk/return summary, and in the
financial highlights information.
-[158]- 15 U.S.C. 80a-7(d). See proposed Item 6(b).
-[159]- Item 5(f).
==========================================START OF PAGE 85======
available in the fund's financial statements and
SAI.-[160]-
b. Capital Structure
Form N-1A requires certain information to be disclosed in
the prospectus about a fund's shares and capital structure.
The proposed amendments would reorganize and revise these
disclosure requirements consistent with the intent of
Form N-1A to focus prospectus disclosure on essential
information about a particular fund that would assist an
investor in deciding whether to invest in that fund.
Transferability, Material Obligations, and Potential
Liabilities. Form N-1A requires disclosure about any limits
on the transferability of, and material obligations or
potential liabilities associated with, a fund's shares. Funds
rarely restrict share transferability and generally are
organized as corporations or business trusts to provide
limited liability to their shareholders. If, however, any
restrictions or special liabilities applied to the purchase of
a fund's shares, information about the restrictions or
liabilities would appear to help an investor decide whether to
invest in the fund. As a consequence, the proposed amendments
-[160]- Item 15.
==========================================START OF PAGE 86======
would continue to require this information in the
prospectus.-[161]- The Commission requests comment on
the types and likelihood of restrictions and liabilities
imposed on fund shares and on what disclosure, if any, should
be required.
Shareholder Voting Rights. Form N-1A requires a fund to
discuss shareholder voting rights and disclose if the rights
of shareholders can be modified by other than a majority
vote.-[162]- Because the Investment Company Act
requires all fund shares to have equal voting
-[161]- For funds organized as business trusts under
Massachusetts law, prospectuses sometimes
include disclosure that, under Massachusetts
law, fund shareholders may, under certain
limited circumstances, be held personally liable
as partners for the fund's obligations. In
adopting Form N-1A, the Commission stated that
disclosure of possible contingent shareholder
liability under this form of organization should
not be required if a fund believes that, because
of arrangements to protect shareholders, the
likelihood of loss or expense to shareholders is
remote. Form N-1A Adopting Release, supra
note 12, at 37933-34. See 3 T. FRANKEL, THE
REGULATION OF MONEY MANAGERS 79 (1980) (for
funds organized as Massachusetts business
trusts, personal liability generally is
considered remote). The Division's review of
fund prospectuses indicates that certain funds
include disclosure about Massachusetts business
trusts and state that shareholder liability is
remote. Funds should continue to evaluate
whether this disclosure is necessary.
-[162]- Item 6(a), (c).
==========================================START OF PAGE 87======
rights-[163]- and prescribes the vote required for
significant matters,-[164]- voting rights disclosure
typically is generic and does not appear to assist investors
in evaluating and comparing funds. The proposed amendments
would move this disclosure to the SAI.-[165]-
Senior Securities. Form N-1A requires disclosure about
any class of senior securities issued by a fund.-[166]-
The proposed amendments would delete this requirement. Senior
securities issued by funds are limited to borrowings, which
are subject to significant legal restrictions under the
-[163]- Section 18(i) [15 U.S.C. 80a-18(i)].
-[164]- See, e.g., section 15(a) (approval of investment
advisory contract); section 16(a)
[15 U.S.C. 80a-16(a)] (election of directors);
section 13(a) [15 U.S.C. 80a-13(a)] (changes in
fundamental investment policies). See also
section 2(a)(42) [15 U.S.C. 80a-2(a)(42)]
(defining "voting security" and a "vote of a
majority of the outstanding voting securities"
for purposes of the Investment Company Act);
rules 18f-2, 18f-3 [17 CFR 270.18f-2, -3]
(specifying certain voting rights with respect
to series funds and multiple class funds,
respectively).
-[165]- Proposed Item 17(a).
-[166]- Item 3(b).
==========================================START OF PAGE 88======
Investment Company Act-[167]- and required to be
disclosed in a fund's financial statements.-[168]-
Fund Classes. Form N-1A requires disclosure about "other
classes" of fund shares (excluding borrowings that are not
senior securities).-[169]- The proposed amendments
would delete this requirement. Funds are not permitted to
issue other classes of shares except for series funds under
section 18f-2 and related rule 18f-2, and multiple class funds
under rule 18f-3. When a series or class is offered in the
prospectus, disclosure about the series or class would be
required to be given.
7. Item 7 -- Shareholder Information
Form N-1A requires prospectus disclosure about a fund's
purchase and redemption procedures, dividends and
distributions, and the tax consequences of investing in the
fund. While most of these disclosure requirements would
remain substantially the same, the proposed amendments would
-[167]- Section 18(f)(1) (requiring, for example, asset
coverage of at least 300% for bank borrowings).
-[168]- The financial statement requirements in
Regulation S-X specify that a fund disclose in
its balance sheet any amounts payable to banks
and others for borrowings. Rule 6-04 of
Regulation S-X [17 CFR 210.6-04].
-[169]- Item 6(d).
==========================================START OF PAGE 89======
make certain revisions, particularly with respect to tax
disclosure, to focus this disclosure on essential information
about a fund.-[170]-
a. Purchase and Redemption
Pricing of Fund Shares. Form N-1A requires a fund to
explain that the price of fund shares is based on the fund's
net asset value and to identify the methods used to value the
fund's assets.-[171]- The proposed amendments would no
longer require this information in the prospectus because it
does not appear to assist investors in deciding whether to
invest in a particular fund. The pricing of fund shares and
the valuation of portfolio securities are technical, subject
-[170]- Information about purchase and redemption
procedures typically takes up a number of pages
in fund prospectuses and may contribute to the
perception that prospectuses are too long and
complicated. At the same time, this disclosure
(e.g., information on dividend reinvestment
plans, automatic investment programs, and
checkwriting privileges) appears to be included
in prospectuses in response to investor interest
in the information.
-[171]- Item 7(b)(i).
==========================================START OF PAGE 90======
to legal requirements, and disclosed in the SAI.-[172]-
The proposed amendments would continue to require a fund
to state when calculations of net asset value are made and
that the price at which a purchase is effected is based on the
next calculation of net asset value after the order is placed.
A fund also would continue to be required to identify in a
general manner any national holidays when shares will not be
priced and to identify specifically any additional local or
regional holidays when the fund will be closed.-[173]-
Although not specifically required, many funds disclose in
their prospectuses how net asset value is determined. Funds,
-[172]- Item 19(b). A fund's securities are required to
be valued based on market quotations or, in the
absence of market quotations, at fair value as
determined by the board of directors. See
section 2(a)(41) [15 U.S.C. 80a-2(a)(41)]
(defining "value"). See also rule 2a-7
(regarding the amortized cost method of
valuation for money market funds).
-[173]- See Guide 28; proposed Item 7(a)(2). The
Instruction to proposed Item 7(a)(2) would
incorporate the disclosure required by Guide 28
concerning funds with portfolio securities
listed on foreign exchanges that trade on
weekends and U.S. holidays. If a fund does not
price on days when foreign securities are
traded, the Instruction would require the fund
to disclose in the prospectus that the net asset
value of the fund's shares may change on days
when shareholders cannot purchase or redeem fund
shares.
==========================================START OF PAGE 91======
for example, often disclose that net asset value equals assets
minus liabilities divided by the number of outstanding
shares.-[174]- Although this disclosure tends to be
generic because the calculation of net asset value is the same
for all funds, the Commission requests comment whether
disclosure about what constitutes net asset value would be
helpful to investors.
Principal Underwriter. Form N-1A requires a fund to
disclose the name and address of the fund's principal
underwriter, and whether any affiliated person of the
principal underwriter is an affiliated person of the
fund.-[175]- This information would be moved to the
SAI because it does not appear to provide investors with
essential information that would assist them in deciding
whether to invest in a particular fund.-[176]- The
name and address of the underwriter typically are not
necessary for investors to purchase and redeem a fund's
shares.-[177]- The fund's board of directors is
-[174]- See section 2(a)(41) [15 U.S.C. 80a-2(a)(41)]
and rule 2a-4 [17 CFR 270.2a-4].
-[175]- Item 7(a).
-[176]- Proposed Item 15(b).
-[177]- Fund investors often effect purchases and
redemptions through financial intermediaries
(such as broker-dealers and banks) without the
involvement of the fund's underwriter. When
(continued...)
==========================================START OF PAGE 92======
responsible for approving the fund's contract with the
principal underwriter. Conflicts of interest that could
influence transactions between a principal underwriter and a
fund are governed by legal protections in the Investment
Company Act.-[178]-
Service Providers. Form N-1A requires a fund to disclose
the identity of any person (other than the investment adviser)
who provides significant administrative or business management
services for the fund (e.g., an administrator), including a
description of, and the fees paid for, the
services.-[179]- The Form also requires the name and
address of the fund's transfer agent and dividend paying
agent.-[180]- The proposed amendments would move this
disclosure to the SAI.-[181]- While a fund could
-[177]-(...continued)
information about the underwriter is necessary
to effect purchase and redemption requests, a
fund would disclose this information in the
prospectus in connection with the description of
how to purchase and redeem the fund's shares.
-[178]- See supra note 149.
-[179]- Item 5(d).
-[180]- Item 5(e).
-[181]- Proposed Item 15(h). In addition, Item 5(b)(ii)
requires a statement, if applicable, that the
investment adviser is responsible for overall
management of the fund's business. This
disclosure would be provided in the SAI in
response to proposed Item 15(c)(1).
==========================================START OF PAGE 93======
include in the prospectus information about its service
providers in describing the fund's purchase and redemption
procedures, disclosure about persons that perform
administrative or "back-office" functions unrelated to the
purchase and sale of fund shares does not appear to assist
investors in evaluating and comparing fund investments. The
fund's investment adviser or board of directors is responsible
for overseeing the fund's contractual arrangements with
service providers and their costs to the fund. In addition,
the costs incurred for services provided to the fund are
included in the prospectus fee table and in the fund's
financial statements.-[182]-
Account Transfers. The GCLs require certain information
about transfers of shares held in street name
accounts.-[183]- This disclosure would be retained in
a simplified form in the prospectus. In particular, the
proposed amendments would require a fund to disclose any
restrictions on, or costs associated with, transferring shares
held in street name to inform investors holding shares in
street name about these restrictions and costs.-[184]-
-[182]- Rule 6-07 of Regulation S-X [17 CFR 210.6-07];
Instruction 3(c) to proposed Item 3.
-[183]- 1990 GCL, supra note 28, at II.D.
-[184]- Proposed Item 7(b)(7).
==========================================START OF PAGE 94======
b. Tax Consequences
General Tax Disclosure. Form N-1A requires a fund to
describe in its prospectus the tax consequences of an
investment in the fund.-[185]- Prospectus tax
disclosure often includes lengthy information about the tax
treatment of the fund and, in some cases, the tax treatment of
specific securities held by a fund.-[186]- This
disclosure tends to obscure information about the tax
treatment of a fund's distributions and the direct tax
consequences to investors of investing in the fund.
-[185]- Item 6(g). Form N-1A provides guidance about
the tax disclosure to be provided in the
prospectus, indicating, among other things, that
if a fund intends to qualify under Subchapter M
of the Internal Revenue Code [I.R.C. 851 et
seq.], the fund should state that it will
distribute all of its net income and gains to
shareholders and that these distributions are
taxable.
-[186]- Many prospectuses, for example, include
information about the conditions a fund must
meet to qualify for pass-through tax treatment
under Subchapter M and, when applicable, the tax
treatment of private activity bonds, foreign
currency contracts, and other fund investments.
In addition, tax disclosure frequently includes
technical jargon by referring, for example, to a
fund's status as a "regulated investment
company" and the fund's payment of "spillback
distributions" and "net investment income." See
proposed General Instruction C.1(a), which would
continue to instruct a fund not to use technical
or legal terminology in the prospectus.
==========================================START OF PAGE 95======
The proposed amendments would revise the tax disclosure
required in fund prospectuses. In particular, the proposed
amendments would require information about a fund's
qualification under Subchapter M of the Internal Revenue Code
to appear in the SAI.-[187]- Subchapter M confers
pass-through tax treatment for funds that meet certain
conditions.-[188]- Disclosure about Subchapter M,
which relates to the tax treatment of the fund, does not
appear to help investors evaluate the tax consequences of
investing in the fund. In addition, because virtually all
funds qualify for pass-through tax treatment, disclosure about
the conditions of, or a fund's qualification under,
-[187]- Proposed Item 19(a). The proposed amendments
would eliminate the requirement that a fund
disclose in the SAI any special tax consequences
resulting from offering more than one class of
capital stock or being a series fund, since the
tax consequences of investing in a multiple
class or series fund are no different from those
of investing in a single class or single series.
While in the past a series fund could offset the
gains of one portfolio against the losses of
another, a series fund no longer may offset the
gains and losses of its various portfolios. See
I.R.C. 851(h)(1) (treating each portfolio of a
series fund as a separate entity for tax
purposes).
-[188]- To qualify for pass-through tax treatment under
Subchapter M, a fund must, among other things:
derive at least 90% of its gross income from
certain specified sources; derive less than 30%
of its gross income from the sale of securities
and certain other specified investments held for
less than 3 months; meet certain diversification
requirements; and distribute at least 90% of its
taxable income (which does not include capital
gains) and net tax-exempt income for the year.
See I.R.C. 512(a)(5), 851.
==========================================START OF PAGE 96======
Subchapter M does not appear to help investors evaluate or
compare fund investments.-[189]-
To focus prospectus disclosure on the tax consequences of
investing in a particular fund, the proposed amendments would
require a description of the tax consequences to shareholders
of buying, holding, exchanging, and selling the fund's
shares.-[190]- The proposed amendments would require a
fund to state, as applicable, that the fund intends to make
distributions that may be taxed as ordinary income and capital
gains. If a fund, as a result of its investment objectives or
strategies, expects its distributions primarily to consist of
ordinary income (or short-term capital gains that are taxed as
ordinary income) or long-term capital gains, the fund would be
required to provide disclosure to that effect. Providing
-[189]- In the rare case of a fund that does not expect
to qualify for pass-through tax treatment under
Subchapter M, proposed Item 7(d)(3) would
require the fund to explain in the prospectus
the tax consequences of not qualifying (e.g., by
disclosing that income and gains realized by the
fund would be subject to double taxation -- that
is, both the fund and shareholders could be
subject to tax liability). This disclosure
would distinguish the fund from other funds and
help investors appreciate the tax consequences
of investing in the fund. Similarly, a fund
that expects to pay an excise tax under the
Internal Revenue Code with respect to its
distributions would be required to disclose in
the prospectus the consequences of paying the
tax. See I.R.C. 4982.
-[190]- Proposed Item 7(d).
==========================================START OF PAGE 97======
specific disclosure about the anticipated tax consequences of
a fund's distributions could help investors decide whether to
invest in a particular fund and to compare fund
investments.-[191]- The proposed amendments also would
require a fund to state that it will provide each shareholder
by a specified date (typically, January 31 of each year) with
specific information about the amount of ordinary income and
capital gains, if any, distributed during the prior calendar
year.-[192]-
The proposed amendments would require a fund to disclose
that its distributions will be taxable whether received in
cash or reinvested in additional shares. The proposed
amendments also would require a fund offering exchange
privileges to disclose that exchanging shares of one fund for
shares of another fund will be treated as a sale and that any
gain from the transaction may be subject to federal income
tax. Disclosure about the tax treatment of reinvested
-[191]- The proposed disclosure requirement would apply
to funds that have investment objectives or
strategies that make it possible to anticipate
the tax consequences of the fund's distributions
(e.g., funds described as "tax-managed,"
"tax-sensitive," or "tax-advantaged" often have
investment strategies to maximize long-term
capital gains and minimize ordinary income;
conversely, money-market funds have investment
objectives and strategies to maximize ordinary
income).
-[192]- See Item 6(g)(iii) (consistent with this
requirement).
==========================================START OF PAGE 98======
dividends and share exchanges would alert investors that
reinvested distributions and exchange transactions are subject
to tax.
Special Tax Disclosure for Tax-Exempt Funds. The proposed
amendments would require a tax-exempt fund to inform investors
of the special tax consequences associated with investing in
the fund.-[193]- Because investors may be unaware that
a portion of the distributions received from a tax-exempt fund
may be subject to federal, state, or local income taxes, the
proposed amendments would require a tax-exempt fund to
disclose, as applicable, that:
(1) the fund may invest a portion of its assets in
securities that generate income that is not exempt from
federal or state income tax;-[194]-
(2) income exempt from federal income tax may be subject
to state and local income tax;
-[193]- The proposed amendments also would require a
tax-exempt fund to amend the general tax
disclosures discussed above to reflect that the
fund intends to distribute tax-exempt income.
-[194]- A fund that holds itself out as a tax-exempt
fund can invest up to 20% of its assets in
securities that generate taxable income. See
Investment Company Act Release No. 9785
(May 31, 1977) [42 FR 29130]; Guide 1. See also
Fund Names Release, supra note 2.
==========================================START OF PAGE 99======
(3) any capital gains distributed by the fund may be
taxable; and
(4) a portion of the tax-exempt income distributed by the
fund may be treated as a tax preference item for purposes
of determining whether the shareholder is subject to the
federal alternative minimum tax.-[195]-
8. Item 8 -- Distribution Arrangements
a. Placement of Prospectus Disclosure
Rule 12b-1 fees and sales loads directly affect an
investor's return on a fund investment, and information about
these charges is important to many investors. Currently,
narrative explanations about a fund's distribution
arrangements may appear in different places in the prospectus,
making it difficult for investors to review and compare
additional information about rule 12b-1 fees and sales
-[195]- See Guide 30 (requiring substantially the same
disclosure); Letter from Mary Joan Hoene,
Associate Director, SEC, to Matthew P. Fink,
Senior Vice President and General Counsel, ICI
(Nov. 3, 1987) (if a fund uses a name that
implies its distributions will be exempt from
federal income tax, it may not consider any
investments in municipal obligations that pay
interest subject to the alternative minimum tax
as part of the 80% of the fund's assets that
must be invested in tax-exempt securities).
==========================================START OF PAGE 100======
loads.-[196]- The proposed amendments would require
information about distribution arrangements to appear together
in the prospectus.-[197]- This approach would help
investors locate information designed to assist them in
evaluating a particular fund and comparing fund investments.
b. Rule 12b-1 Plans
Prospectus Disclosure. Form N-1A requires detailed
prospectus disclosure about rule 12b-1 plans.-[198]-
The technical nature of this disclosure tends to obscure
information about the amount of fees paid under a fund's rule
12b-1 plan. Although distribution fees are charged on an
on-going basis in lieu of, or in addition to, sales loads,
investors may not appreciate the continuing nature of
-[196]- A summary of a fund's fees and expenses, which
includes information about rule 12b-1 fees and
sales loads, is contained in the fee table.
-[197]- Proposed General Instruction C.2(a). Proposed
Item 8 would consolidate prospectus disclosure
requirements for rule 12b-1 fees, sales loads,
and multiple class and master-feeder funds.
Consistent with the proposed amendments to the
fee table requirements, rule 12b-1 fees and
sales loads would be referred to as "marketing
(12b-1) fees" and "sales fees (loads)" in the
narrative discussion of a fund's distribution
arrangements in the prospectus.
-[198]- Item 7(e), (f).
==========================================START OF PAGE 101======
distribution fees or that distribution fees cumulatively could
exceed other types of sales charges.-[199]-
The proposed amendments would revise disclosure
requirements for rule 12b-1 plans to focus prospectus
disclosure on the fees paid under these plans. Focusing
disclosure on fee information, rather than on technical, legal
matters relating to a fund's rule 12b-1 plan, would appear to
provide greater assistance to an investor in deciding whether
to invest in the fund. In particular, the prospectus of a
fund with a rule 12b-1 plan would be required to state the
amount of the fee and provide disclosure to the following
effect:
ù the fund has a rule 12b-1 plan that allows the fund to
pay fees for the sale and distribution of its shares;
and
ù since these fees are paid out of the fund's assets on
an on-going basis, over time these fees will increase
the cost of your investment and may cost you more than
paying other types of sales loads.
-[199]- See Updegrave, Fund Investors Need to Go Back to
School, MONEY, Feb. 1996, at 98, 100 (of
approximately 1,400 investors surveyed by Money
magazine and The Vanguard Funds Group, only 22%
knew that rule 12b-1 fees are charged against
fund assets to pay for distribution of fund
shares). Based on information compiled by the
Division from Form N-SAR [17 CFR 274.101]
filings, approximately 50% of funds charge rule
12b-1 fees.
==========================================START OF PAGE 102======
The proposed requirement to disclose that, over time rule
12b-1 fees will increase investment costs and may exceed other
types of sales loads is intended to help an investor
appreciate the continuing effect of rule 12b-1 fees on an
investment in a fund. Similar, but more complex, disclosure
is required by rules of the National Association of Securities
Dealers, Inc. ("NASD").-[200]- The proposed amendments
seek to simplify the disclosure so that it may be more readily
understood by investors. The Commission requests comment on
the proposed disclosure and whether the disclosure should
appear with the narrative explanation about rule 12b-1 fees or
in connection with the fee table disclosure of these
fees.-[201]-
-[200]- Rule 2830(d)(4) of the NASD Conduct Rules [NASD
Manual (CCH) 4624] (requiring a fund with a rule
12b-1 plan to disclose adjacent to the fee table
that "long-term shareholders may pay more than
the economic equivalent of the maximum front-end
sales charges permitted by [NASD rules]"). Rule
2830(d)(2) of the NASD Conduct Rules [NASD
Manual (CCH) 4623] limits aggregate front-end,
deferred, and asset-based sales charges to 6.25%
of total new gross sales for funds that pay
service fees and to 7.25% of total new gross
sales for funds that do not pay service fees.
Because these aggregate caps apply on a
fund-wide basis, over time an individual
investor may pay fees exceeding the applicable
cap. The NASD disclosure is intended to address
this issue. See Securities Exchange Act Release
No. 30897 (July 7, 1992) [57 FR 30985, 30987].
-[201]- If the proposed disclosure requirement is
adopted, the Commission intends to discuss with
the NASD its disclosure requirement so that
similar disclosure is not required to be
repeated in the prospectus. More generally, the
(continued...)
==========================================START OF PAGE 103======
A fund may pay "service fees" alone or combined with fees
for the sale and distribution of its shares.-[202]- If
a fund pays service fees under a rule 12b-1 plan, the fund
would reflect the payment of service fees in its rule 12b-1
disclosure. When service fees are paid outside of a rule
12b-1 plan, the fund would be required to disclose the amount
and purpose of the fee in connection with information in the
prospectus about any sales loads and rule 12b-1 fees charged
by the fund.
Additional Information. Form N-1A requires a fund with a
rule 12b-1 plan to describe the plan briefly and list the
-[201]-(...continued)
Commission intends to discuss with the NASD
other prospectus disclosure requirements imposed
by NASD rules with the goal of incorporating
these requirements, when appropriate, in
applicable Commission rules or forms. In
addition to streamlining disclosure
requirements, this approach would give the
Commission an opportunity to reassess NASD
disclosure requirements in light of the
Commission's broad initiatives to improve fund
disclosure.
-[202]- See Rule 2830(b)(9) of the NASD Conduct Rules
[NASD Manual (CCH) 4622] (defining "service
fees" as payments for personal service and/or
the maintenance of shareholder accounts). Rule
2830(d)(5) of the NASD Conduct Rules [NASD
Manual (CCH) 4624] limits service fees to .25%
of a fund's average annual net assets. See also
Item 7(e) (requiring prospectus disclosure about
the amount or rate of any trail fees paid out of
fund assets to dealers or other persons that
provide investors with advice concerning the
purchase, sale, or holding of fund shares).
==========================================START OF PAGE 104======
principal activities for which payments under the plan will be
made. A fund also must disclose the relationship between
amounts paid to and expenses incurred by the distributor
(i.e., whether the plan reimburses the distributor only for
expenses incurred or compensates the distributor regardless of
its expenses).-[203]- The Form requires additional
disclosure if the fund engages in joint distribution
activities with another fund-[204]- or if the fund's
underwriter has incurred unreimbursed expenses under the
fund's 12b-1 plan.-[205]-
-[203]- Guide 29.
-[204]- A fund that engages in joint distribution
activities must disclose that its rule 12b-1
fees may be used to finance another fund's
distribution activities and how it allocates
costs between funds.
-[205]- A fund must disclose both the amount of
unreimbursed expenses and the amount as a
percentage of the fund's net assets, and
indicate whether it is obligated to pay the
expenses. In addition, under Generally Accepted
Accounting Principles, the amount of any
unreimbursed expenses under a rule 12b-1 plan is
provided in the fund's financial statements.
For a fund that has agreed to pay unreimbursed
expenses if its rule 12b-1 plan is terminated,
any unreimbursed expenses appear as a liability
on the fund's financial statements. See
Financial Accounting Standards Board, Statement
of Financial Accounting Standards
No. 5 -- Accounting for Contingencies
(Mar. 1975); American Institute of Certified
Public Accountants, Statement of Position 95-3,
at 5-8 (July 28, 1995).
==========================================START OF PAGE 105======
The proposed amendments would move this disclosure to the
SAI. The information adds unnecessary complexity to rule
12b-1 disclosure and, as a consequence, tends to obscure the
amount and purpose of rule 12b-1 fees, which does not appear
to help investors evaluate and compare fund
investments.-[206]- Rule 12b-1 establishes
requirements for a rule 12b-1 plan. In particular, a fund's
board of directors must approve the rule 12b-1 plan and
related fees.-[207]- NASD rules provide additional
protection by limiting rule 12b-1 fees (including the payment
-[206]- Fund prospectuses typically include lengthy and
generic descriptions of rule 12b-1 plans and
related distribution activities. Prospectus
disclosure, for example, consists of statements
that distribution fees will be used to
compensate broker-dealers and other financial
intermediaries for providing distribution
assistance and administrative, accounting, and
other services to fund shareholders and to
promote sales of fund shares through the
printing and distribution of prospectuses, sales
literature, and advertising materials. Some
prospectuses include detailed descriptions of
the requirements of rule 12b-1.
-[207]- See rule 12b-1(e) (permitting a fund's directors
to implement or continue a rule 12b-1 plan only
if they conclude that there is a reasonable
likelihood that the plan will benefit the fund
and its shareholders). See also rule 12b-1(d)
(requiring directors to request and evaluate
information reasonably necessary to make an
informed decision about whether to adopt or
continue a rule 12b-1 plan); rule
12b-1(a)(3)(ii) (requiring a rule 12b-1 plan to
provide that directors review, at least
quarterly, the amount and purposes of
expenditures under the plan).
==========================================START OF PAGE 106======
of unreimbursed expenses) to a percentage of the fund's new
gross sales.-[208]-
c. Sales Loads
Form N-1A requires disclosure in the prospectus about the
amount of any sales load charged on an investment in a fund
and when a sales load may be reduced or eliminated (e.g., for
larger investments).-[209]- The proposed amendments
would continue to require most of this disclosure to appear in
the prospectus.-[210]- The proposed amendments,
however, would modify certain requirements that call for
detailed and technical information about sales loads because
-[208]- See supra note 200. The Commission previously
expressed concerns about the carryover of a
large amount of unreimbursed expenses under a
rule 12b-1 plan. Investment Company Act Release
No. 16431 (June 13, 1988) [53 FR 23258, 23267]
(proposing amendments to rule 12b-1). These
concerns generally have been addressed by the
NASD sales charge rule.
-[209]- Item 7(b), (c). See section 22(d)
[15 U.S.C. 80a-22(d)] (prohibiting the sale of
fund shares other than at the current public
offering price described in the prospectus) and
rule 22d-1 [17 CFR 270.22d-1] (requiring
disclosure about sales load breakpoints and
waivers).
-[210]- The proposed amendments would clarify that a
fund is required to disclose any sales loads
imposed on shares purchased with reinvested
dividends or other distributions. The proposed
amendments also would codify the requirement in
Guide 28 to explain in the prospectus that the
term "offering price" includes a front-end load.
==========================================START OF PAGE 107======
the disclosure tends to obscure information about the amount
of the sales load charged by a fund and does not appear to
help investors evaluate and compare fund investments.
Dealer Reallowances. A fund is required to include a
table in the prospectus showing any front-end load as a
percentage of both the offering price and the net amount
invested for each breakpoint, and any amounts reallowed to
dealers as a percentage of the offering price. The proposed
amendments would move disclosure about dealer reallowances to
the SAI-[211]- because it adds unnecessary complexity
to sales load disclosure and does not appear to provide
helpful information to investors. NASD rules address concerns
about financial incentives brokers may have in recommending
that customers buy or hold fund shares. These rules require a
broker who recommends investments to a customer to have
reasonable grounds for believing that the recommendation is
suitable for that customer.-[212]-
-[211]- Proposed Item 15(f).
-[212]- Rule 2310 of the NASD Conduct Rules [NASD Manual
(CCH) 4261]. When the Commission proposed
amendments to rule 6c-10 [17 CFR 270.6c-10] in
1995, it requested comment whether reallowances
to dealers in connection with deferred sales
loads should be disclosed in fund prospectuses.
Investment Company Act Release No. 20917
(Mar. 2, 1995) [60 FR 11890, 11894]. In
adopting amended rule 6c-10, the Commission
deferred consideration of reallowances because
the NASD is studying dealer compensation
(continued...)
==========================================START OF PAGE 108======
Waivers and Sales Load Breakpoints. Sales loads often are
waived when fund directors and other affiliated persons of the
fund (e.g., employees of the fund's adviser) purchase the
fund's shares.-[213]- Form N-1A requires a fund to
provide information about these arrangements in the
prospectus. The proposed amendments would move this
disclosure to the SAI because the disclosure concerns
arrangements that are not available to the majority of
investors and, as a consequence, adds unnecessary length to
fund prospectuses.-[214]-
The proposed amendments also would move to the SAI
disclosure about sales load breakpoints and waivers in
connection with a merger or other
reorganization.-[215]- This information does not
appear to be important to investors unless and until a
reorganization is announced. Because fund reorganizations
-[212]-(...continued)
practices. Investment Company Act Release
No. 22202 (Sept. 9, 1996) [61 FR 49011, 49016].
Consistent with this approach, the proposed
amendments would not revise the SAI disclosure
of dealer reallowances to include deferred sales
loads.
-[213]- For example, sales loads may be waived for
investment advisory employees who are already
knowledgeable about the fund, which may render
marketing and other services unnecessary.
-[214]- Proposed Item 13(e).
-[215]- Proposed Item 18(b).
==========================================START OF PAGE 109======
generally require shareholder approval, this information would
be provided to investors in proxy materials at a time when it
would be more meaningful to them.-[216]-
Third-Party Fees. Form N-1A requires a fund to disclose
in the prospectus any fees charged by a bank, broker-dealer or
other person in connection with the purchase of the fund's
shares, if the fees are charged with the fund's
knowledge.-[217]- The proposed amendments would no
longer require this disclosure, since these fees are not
charged by the fund.-[218]- Investors are informed of
(and pay) the fees as part of their relationship with, and the
services provided by, the third party.-[219]-
-[216]- Form N-14 under the Securities Act
[17 CFR 239.23], which is used by funds to
register securities issued in a merger or other
reorganization and as the proxy statement for
the transaction, requires disclosure about
material information concerning the transaction.
See Item 4(a) of Form N-14. See also
Item 14(a)(3) of Schedule 14A under the
Securities Exchange Act (requiring the same
information in proxy statements).
-[217]- Item 7(b). Prospectus disclosure is not
required if the fees are "adequately disclosed"
in a wrapper to the prospectus.
-[218]- In some cases, fees charged by a third party, in
effect, represent fees of the fund (e.g., when
the fees are charged to all shareholders to
invest in the fund) and would be required to be
disclosed in the prospectus.
-[219]- For fee disclosure requirements applicable to
banks, broker-dealers and investment advisers,
(continued...)
==========================================START OF PAGE 110======
d. Multiple Class and Master-Feeder Funds
Form N-1A requires certain information to be included in
the prospectus about the different distribution and service
arrangements of multiple class and master-feeder
funds.-[220]- Consistent with the proposed approach
for sales loads and rule 12b-1 fees, the proposed amendments
would require this information to appear in one place in the
prospectus. The proposed amendments also would simplify
prospectus disclosure requirements for master-feeder funds by
eliminating the requirement that a feeder fund discuss the
possibility and consequences of no longer investing in the
master fund (e.g., if the master fund changes its investment
objectives to be inconsistent with those of the feeder fund).
Since master-feeder arrangements typically are designed to
-[219]-(...continued)
see BOARD OF GOVERNORS OF THE FEDERAL RESERVE
SYSTEM, FDIC, OFFICE OF THE COMPTROLLER OF THE
CURRENCY, AND OFFICE OF THRIFT SUPERVISION,
INTERAGENCY STATEMENT ON RETAIL SALES OF
NONDEPOSIT PRODUCTS, 6 Fed. Banking L. Rep.
(CCH) 70-113, at 82,598 (Feb. 15, 1994); rule
2230 of the NASD Conduct Rules [NASD Manual
(CCH) 4211]; rule 204-3(a) under the Advisers
Act [17 CFR 275.204-3(a)] and Item 1 of Form
ADV, Part II [17 CFR 279.1].
-[220]- General Instruction I; Item 6(h); Guide 34.
==========================================START OF PAGE 111======
accommodate feeder funds, the possibility of a feeder fund not
investing in the master fund is likely to be remote.-[221]-
9. Item 9 -- Financial Highlights Information
Condensed Financial Information. The financial highlights
information currently required at the beginning of the
prospectus provides summary financial information about a
fund, including the fund's total return for each of the last
10 fiscal years.-[222]- The proposed amendments would
retain the table, but no longer require this information to
appear at the front of the prospectus.-[223]-
Requiring detailed financial information at the beginning of a
fund's prospectus may unnecessarily impede a fund's ability to
present prospectus disclosure in an effective format.
-[221]- Potential changes in fund operations and
investments also are not unique to a feeder
fund. With any fund investment, changes may
occur that significantly affect the nature of
the fund. The interests of all fund
shareholders, including those of feeder funds,
are represented by a board of directors. In
addition, as with all shareholders, a feeder
fund's shareholders would receive notice of and
have an opportunity to vote on fundamental
changes relating to the master fund's operations
and investments.
-[222]- Item 3(a); General Instruction G to Form N-1A.
-[223]- Proposed Item 9; proposed General
Instruction C.2(a).
==========================================START OF PAGE 112======
Form N-1A requires a brief explanation of the nature and
source of the information included in the financial highlights
table as well as a statement that the auditor's report is
available upon request. To meet this requirement, funds
generally disclose that the table presents financial
information and how shareholders can obtain the auditor's
report. The proposed amendments seek to assist investors in
using the financial highlights information by requiring a
narrative explanation to the following effect:
The financial highlights table is intended to help you
understand the fund's financial performance for the
past 10 years [or, if shorter, for the period of the
fund's operations]. Certain information reflects
financial results for a single fund share. The total
returns in the table represent the rate an investor
would have earned [or lost] on an investment in the
fund for the period indicated (assuming reinvestment of
all dividends and distributions). This information has
been audited by _______, whose report, along with the
fund's financial statements, is included in [the SAI or
annual report], which is available upon
request.-[224]-
The financial highlights disclosure requires performance
information for a partial year to be annualized. The proposed
amendments would require performance information for a period
of less than a year to be stated without annualization. As
previously indicated, the Commission is concerned that
-[224]- Since the financial highlights information is
required to be audited for the latest 5 years,
the standardized narrative would continue to
refer to the auditor's report and its location.
==========================================START OF PAGE 113======
annualization of performance information may result in a
performance figure that could mislead investors.-[225]-
Apart from certain other technical and conforming changes,
the proposed amendments would not revise the requirements for
financial highlights disclosure. The Commission recognizes,
however, that additional changes may further improve the
financial highlights information, which often takes up a full
page or more in the prospectus. The Commission intends to
revisit this disclosure in a separate rulemaking initiative
that would revise fund financial statement requirements
generally and requests specific comment on simplifying and
updating the financial highlights information. In particular,
the Commission requests comment on reducing the number of
captions to simplify the table and decreasing the period for
which information is required from 10 years to 5 years.
Because the proposed amendments would require a bar chart
illustrating a fund's returns for a 10-year period, the
Commission requests comment whether the financial highlights
information should be moved to the SAI, eliminated for certain
-[225]- See, e.g., Money Market Fund Prospectus Release,
supra note 14, at 38458.
==========================================START OF PAGE 114======
or all funds,-[226]- or provided in other disclosure,
such as in a fund's Form N-SAR filings.
Calculation of Performance Data. Form N-1A requires a
brief explanation in the prospectus of how the fund calculates
performance data if it includes performance information in
advertisements permitted under rule 482 of the Securities
Act.-[227]- This disclosure was required because an
advertisement under rule 482 is an omitting prospectus under
section 10(b) of the Securities Act and, as an omitting
prospectus, was required to contain information "the substance
of which" is contained in the prospectus. The proposed
amendments would eliminate this disclosure requirement.
Recent legislation added section 24(g) to the Investment
Company Act, which authorizes the Commission to adopt rules
permitting a fund to use a summary or omitting prospectus that
includes information the substance of which is not included in
-[226]- In connection with the proposal to simplify
money market fund prospectuses, the Commission
proposed to replace the financial highlights
table with a 10-year bar graph of fund returns.
See Money Market Fund Prospectus Release, supra
note 14, at 38455. The summary financial
information does not appear to be useful for
money market funds because these funds typically
do not have changes in net assets or realized
capital gains.
-[227]- Item 3(c); 17 CFR 230.482(a).
==========================================START OF PAGE 115======
the prospectus.-[228]- In the near future, the
Commission intends to propose to amend rule 482 to eliminate
the "substance of which" requirement, which would make the
disclosure of performance data unnecessary. Disclosure about
how performance is calculated does not appear to assist
investors in deciding whether to invest in a particular fund
and would continue to be available in the SAI.-[229]-
B. Part B -- Statement of Additional Information
The SAI provides a more detailed discussion of matters
described in the prospectus as well as additional information
about a fund.-[230]- The proposed amendments would
make a number of technical and conforming revisions to the SAI
disclosure requirements to reflect the proposed changes in the
prospectus disclosure requirements. After completion of the
prospectus initiative, the Commission intends to review the
SAI requirements and propose amendments to simplify and update
SAI disclosure.
-[228]- See 1996 Securities Act supra note 139, at
section 204.
-[229]- Proposed Item 21. For a money market fund, SAI
disclosure would include, when applicable, the
calculation of the fund's 7-day tax-equivalent
yield and tax-effective yield. See Money Market
Prospectus Release, supra note 14, at 38458.
-[230]- See proposed General Instruction C.1(b)
(current General
Instruction G). See also supra notes 39 and
47
accompanying text.
==========================================START OF PAGE 116======
C. Part C -- Other Information
Part C of Form N-1A contains information in support of a
fund's registration statement that is not included in the
prospectus or the SAI.-[231]- The proposed amendments
would revise Part C to eliminate unnecessary filing
requirements.-[232]- As amended, Part C would no
longer require a fund to file model retirement plans that are
used to offer the fund's shares-[233]- because funds
routinely offer their shares in connection with retirement
plans and the terms and other aspects of these plans are
governed by the Employee Retirement Income Security Act of
1974 ("ERISA") and by the Internal Revenue Code.-[234]-
Amended Part C also would no longer require a fund to file a
-[231]- Items 24 to 32.
-[232]- The proposed amendments also would eliminate the
"Instructions as to Summary Prospectuses" that
follow Part C. To the Commission's knowledge,
no fund has used a summary prospectus under
these instructions and the proposed profile
would give funds the flexibility, at their
option, to provide a summary disclosure document
to investors. See Profile Release, supra note
1.
-[233]- Item 24(b)(14) (also requiring information
about the costs
and fees charged under the plans).
-[234]- See 29 U.S.C. 1104(c); I.R.C. 401-409. The
Commission
adopted this requirement in 1978, when the use
of funds as
vehicles for retirement planning was
relatively new.
Integrated Registration Statement Release,
supra note 140,
at 39553, 39557.
==========================================START OF PAGE 117======
schedule showing how it calculates performance
data,-[235]- since these calculations have become
routine and the Commission staff can verify a fund's
performance calculations during a fund
examination.-[236]-
Part C requires a newly organized fund to provide an
undertaking to file a post-effective amendment to its
registration statement containing updated financial statements
within 4 to 6 months of the effective date of the registration
statement.-[237]- The purpose of this requirement is
to assure the availability of financial information reflecting
the fund's operations and investment of the fund's assets in
accordance with its investment objectives and strategies. The
Division has provided limited relief with respect to the
timing of filing the updated financial information in two
-[235]- Item 24(b)(16).
-[236]- See Money Market Fund Prospectus Release,
supra note 14,
at 38458 (proposing to eliminate this
requirement). The
Commission required funds to file these
calculations in
connection with the standardization of
performance
information used in fund advertisements to
assure that
funds would follow the formula correctly.
Performance
Release, supra note 14, at 3876.
The proposed amendments also would eliminate the
requirement in
Item 24(b)(3) to file voting trust agreements, because
funds are not
permitted to use these agreements under section 20(b)
[15 U.S.C. 80a-20(b)]. The undertaking required by Item
32(c)
relating to the delivery of a fund's annual reports would
be deleted
because the requirement would be incorporated in proposed
Item 5.
-[237]- Item 32(b).
==========================================START OF PAGE 118======
circumstances: (i) when a fund defers commencement of
operations after the effective date of its registration
statement; and (ii) when the 4 to 6 month period following the
effective date of the registration statement ends near the
date of the financial statements to be used in the fund's next
annual or semi-annual report.-[238]- The proposed
amendments would codify the requirement to file updated
financial information.-[239]- The proposed amendments
would permit a fund to file a post-effective amendment within
4 to 6 months from the date the fund commences operations.
The amendments also would give a fund up to 8 months to file
updated financial statements that are included in the fund's
semi-annual or annual report, if the post-effective amendment
is filed within 30 days of the date of the latest balance
sheet included in the annual or semi-annual report. The
Commission requests comment whether the requirement to provide
updated financial information should be retained. In
particular, because the financial information may reflect a
fund's operations for a very short period of time, is this
information useful to investors?
-[238]- 1994 GCL, supra note 28, at V.
-[239]- Proposed Item 22(a)(2). A conforming change
would be made to rule 485(b)(1)(iv) under the
Securities Act [17 CFR 230.485(b)(1)(iv)], which
currently includes a reference to the
undertaking required by Item 32(b) of Part C.
==========================================START OF PAGE 119======
D. General Instructions
1. Reorganizing and Simplifying the Instructions
The General Instructions to Form N-1A provide guidance on
the use and content of the Form. The proposed amendments
would update and reorganize the General Instructions to make
the Instructions easier to use.-[240]- The revised
General Instructions would consist of: (1) Definitions;
(2) Filing and Use of Form N-1A; (3) Preparation of the
Registration Statement; and (4) Incorporation by Reference.
Definitions. Proposed General Instruction A would define
certain terms generally used in Form N-1A. The definitions
would provide greater clarity and avoid repeated references
throughout the Form (for example, to the Investment Company
Act). The proposed amendments would specify that all sections
and rules used in Form N-1A refer to sections and rules under
the Investment Company Act, unless otherwise indicated, and
that all terms defined in the Investment Company Act and
-[240]- Certain information would be deleted as
unnecessary (e.g., current Instruction H
(Electronic Filers) would be deleted since this
Instruction includes only a cross-reference to
Item 24(b)(17), which requires a financial data
schedule to accompany an electronic filing as an
exhibit).
==========================================START OF PAGE 120======
related rules have the same meaning in Form N-1A, unless
otherwise defined.
The proposed amendments would add several definitions to
standardize certain terms, which would be capitalized
throughout the Form. The term "Fund" would be defined as a
registrant or a series of the registrant.-[241]-
General Instruction A also would define "Registrant" and
"Series" and these terms would be used when information is
specifically required for a registrant or a series.-[242]-
Filing and Use of Form N-1A; Preparation of the
Registration Statement. Proposed General Instruction B would
incorporate a more user-friendly, question-and-answer format
regarding the filing and use of Form N-1A and would replace
current Instructions A through D and F. Proposed General
-[241]- Form N-1A generally calls for disclosure about
the "Registrant" (meaning the investment company
registered under the Investment Company Act),
although the Form sometimes refers to a series.
Because the Form may be filed for one or more
series of a registered investment company, the
current references may cause confusion about the
entity for which disclosure is required.
-[242]- General Instruction A would define a
"Master-Feeder Fund" and a "Multiple Class
Fund," which currently are defined in
Instruction I. The proposed amendments also
would define a "Money Market Fund" as a fund
that holds itself out as a money market fund and
meets the maturity, quality, and diversification
requirements of rule 2a-7.
==========================================START OF PAGE 121======
Instruction C would provide streamlined requirements for
preparing the registration statement and would replace
Instruction G. The new Instruction would continue to
emphasize the need to provide clear and concise prospectus
disclosure and permit a fund to include in its prospectus or
SAI additional information that is not misleading and that
does not, because of its nature, quantity, or manner of
presentation, obscure the information required to be included.
Instructions to the Form permitting information to be added to
the prospectus and SAI would be deleted, with Instruction C
providing this guidance for purposes of all fund
disclosure.-[243]-
Instruction C also would instruct a fund to avoid
referring to the SAI or shareholder reports in the prospectus,
unless specifically required by the Form.-[244]-
Repeated cross-references to the SAI and shareholder reports
appear to add unnecessary length and complexity to fund
prospectuses and detract from the purpose of prospectus
-[243]- See, e.g., Item 1(b) (permitting other
information to be included on the cover page of
the prospectus). Similarly, specific
Instructions in Part A that call for brief and
concise prospectus disclosure would be deleted,
since Instruction C would include this
requirement for purposes of all prospectus
disclosure.
-[244]- See supra notes 39-40, 45, and 224 and
accompanying text.
==========================================START OF PAGE 122======
disclosure, which is to provide essential information that
enables fund investors to make informed investment decisions.
Instruction C would allow cross-references to be used within
the prospectus when the cross-reference would assist investors
in understanding the information presented and would not add
complexity to prospectus disclosure. The Commission requests
comment on the proposed approach to cross-references.
Instruction C would provide guidance on the use of Form
N-1A by more than one fund and a multiple class fund. Fund
prospectuses frequently contain information for multiple
series and classes that offer investors different investment
alternatives and distribution arrangements. Because this
practice was not common in 1983 when Form N-1A was adopted,
certain Form requirements may have the unintended effect of
making prospectus disclosure for multiple funds and classes
more complex than necessary.-[245]- When information
is presented clearly, prospectuses offering more than one fund
may make it easier for investors to compare funds and may be
more efficient for funds and investors by eliminating the need
to provide investors with multiple prospectuses containing
repetitive information. Instruction C generally would give
funds the flexibility to organize information about multiple
funds and classes in an effective manner based on their
-[245]- See John Hancock Funds, Inc. (pub. avail.
June 28, 1996).
==========================================START OF PAGE 123======
particular circumstances as long as the presentation is
consistent with the goal of providing clear and concise
information about a fund.-[246]-
Instruction C would permit a fund that is offered as an
investment alternative in a participant-directed defined
contribution plan qualified under the Internal Revenue Code
("plan") to modify its prospectus for use by plan
participants.-[247]- Certain prospectus disclosure
appears to be unnecessary for plan participants because of the
way plans are structured and regulated. The requirements of
ERISA and the Internal Revenue Code and the terms of
individual plans govern, among other things, participant
investments and plan distributions (including the tax
-[246]- A fund, for example, may decide that using a
horizontal rather than vertical presentation for
the fee table would provide the most effective
presentation of the required fee information.
In responding to the proposed risk/return
summary requirements, a fund may find that
different formats communicate the required
information effectively. Depending on the
number and type of funds offered in the
prospectus, for example, a fund may find it
useful to group the required information for all
funds together under each caption or to present
the information sequentially for each fund. See
id. (using a two-page disclosure format for each
of 7 funds offered in a single prospectus).
-[247]- See Profile Release, supra note 1 (permitting a
profile to be modified for use by plan
participants).
==========================================START OF PAGE 124======
consequences of distributions).-[248]- A prospectus
used to offer fund shares to plan participants would be
permitted to omit the information required by proposed Items 7
(shareholder information) and 8 (distribution arrangements).
The Commission requests comment whether it would be
appropriate to omit or modify other disclosure requirements
for prospectuses provided to plan participants. The
Commission also requests comment whether the flexibility to
omit certain disclosure requirements should be expanded to
non-qualified participant-directed defined contribution
plans.-[249]-
Incorporation by Reference. By adopting a two-part
disclosure format for Form N-1A, the Commission intended Part
A of the registration statement to provide investors with a
simplified prospectus that, standing alone, would meet the
requirements of section 10(a) of the Securities
Act.-[250]- Part B, the SAI (which is available to
investors upon request), includes additional information that
the Commission has determined may be useful to some investors,
-[248]- See supra note 234.
-[249]- E.g., eligible plans under section 457 of the
Internal Revenue Code sponsored by a state, a
political subdivision of a state, or certain
nongovernmental tax-exempt organizations.
-[250]- Form N-1A Adopting Release, supra note 12, at
37930.
==========================================START OF PAGE 125======
but is not necessary in the public interest or for the
protection of investors to be in the prospectus.-[251]-
Form N-1A currently permits, but does not require, a fund to
incorporate the SAI by reference into the prospectus. The
two-part disclosure format has been widely used by funds, and
the Commission has found that the current approach to
incorporation by reference supports the intended purpose of
Form N-1A and should be retained.-[252]-
Proposed General Instruction D would address incorporation
by reference and replace current Instruction E.-[253]-
-[251]- Id. See White v. Melton, 757 F. Supp. 267
(S.D.N.Y. 1991) (citing the Form N-1A Adopting
Release, supra note 12, as authority for the
principle that certain matters are required to
appear in the prospectus and others may be
appropriately disclosed in the SAI, which may be
incorporated by reference into the prospectus).
-[252]- See Form N-1A Proposing Release, supra note 13,
at 818 (suggesting that prohibiting
incorporation by reference of the SAI into the
prospectus or, alternatively, requiring delivery
of the SAI with the prospectus, would "vitiate
the Commission's attempt to provide shorter,
simpler prospectuses").
-[253]- The proposed amendments would make technical
revisions to Instruction D to simplify its
requirements. The specific instruction
regarding incorporation by reference of
condensed financial information from reports to
shareholders in General Instruction E would be
incorporated in proposed Item 9 (condensed
financial information). The instruction
allowing incorporation of financial information
in response to Item 23 of Form N-1A from reports
to shareholders would be deleted as unnecessary
(continued...)
==========================================START OF PAGE 126======
Instruction D would continue to permit, but not require, a
fund to incorporate the SAI by reference into the prospectus.
The revised Instruction would clarify that incorporating
information by reference from the SAI is not permitted as a
response to information required to be included in the
prospectus. Permitting the SAI to be incorporated by
reference into the prospectus was meant to allow funds to add
material the Commission determined not to require in the
prospectus, not to permit funds to subtract required
information from the prospectus and place it in the SAI. The
proposed amendments to Form N-1A also seek to provide funds
with clearer directions for allocating disclosure between the
prospectus and the SAI.-[254]-
-[253]-(...continued)
because the Form does not limit incorporation of
information into the SAI. The requirement that
a shareholder report incorporated by reference
into the SAI be delivered with the SAI would be
added to the SAI cover page requirements.
-[254]- Section 19(a) of the Securities Act
[15 U.S.C. 77q(a)] protects a fund from
liability under the Securities Act for actions
taken in good faith in conformity with
Commission rules. The proposed amendments to
Form N-1A are designed to provide better
guidance to funds for purposes of section 19(a).
See Form N-1A Adopting Release, supra note 12,
at 37930.
==========================================START OF PAGE 127======
2. Form N-1A Guidelines and Related Staff Positions
The Guides were prepared by the Division and published by
the Commission when it adopted Form N-1A in
1983.-[255]- The Guides, which generally restate
Division positions that may affect fund disclosure, were
intended to assist funds in preparing and filing their
registration statements. Additional Division positions on
disclosure matters are included in the GCLs.-[256]-
Although certain Guides have been revised and new ones
added in connection with the adoption of various rules, the
Guides collectively have not been reviewed since 1983.
Certain Division positions in the Guides and GCLs have become
outdated.-[257]- Other Guides and GCLs explain or
-[255]- Form N-1A Adopting Release, supra note 12, at
37938 (stating that publication of the Guides
was not intended to elevate their status beyond
that of staff guidance). The Commission
initially adopted guidelines in 1972 to assist
funds in preparing and filing registration
statements. Investment Company Act Release
Nos. 7220, 7221 (June 9, 1972) [37 FR 12790]
("Guides Releases").
-[256]- See supra note 28.
-[257]- See, e.g., Guide 9 (Short Sales) (for short
sales, funds no longer are required to maintain
amounts in segregated accounts at a level that,
with the amount deposited with the broker as
collateral, is at least equal to the market
value of the securities at the time they are
sold short, see Robertson Stephens Investment
(continued...)
==========================================START OF PAGE 128======
restate legal requirements and may encourage generic
disclosure about fund operations that does not appear to help
investors evaluate and compare funds.-[258]- In
addition, the presentation of information in 35 Guides and 7
GCLs is not organized in the most useful or effective manner.
To address these issues, the proposed amendments would
incorporate certain disclosure requirements from the Guides
and GCLs. Other disclosure requirements in the Guides and the
GCLs would not be incorporated in the revised Form because,
among other things, they are outdated or result in disclosure
about technical, legal, and operational matters generally
common to all funds. In addition, certain requirements
calling for specific disclosure about individual fund
investments would not be incorporated in the revised Form
-[257]-(...continued)
Trust (pub. avail. Aug. 24, 1995)); Guide 30
(Tax Consequences) (each series is now treated
as a separate entity for tax purposes and may
not, as suggested by the Guide, offset gains of
one series against losses of another); supra
note 28, 1990 GCL at I.B (undertakings), 1991
GCL at II.A.2 (country, international, and
global funds), and 1992 GCL at II.F (segregated
accounts).
-[258]- See, e.g., Guides 8 (Senior Securities, Reverse
Repurchase Agreements, Firm Commitment
Agreements and Standby Commitment Agreements), 9
(Short Sales), 15 (Qualification for Treatment
Under Subchapter M of the Internal Revenue
Code), and 28 (Valuation of Securities Being
Offered); supra note 28, 1994 GCL at III.C
(redemption fees) and 1995 GCL at II.A (MDFP
disclosure).
==========================================START OF PAGE 129======
because they have tended to standardize disclosure about
certain securities without regard to how a particular fund
intends to use the securities in achieving its investment
objectives. The proposed amendments seek to provide investors
with information about how a fund's particular portfolio will
be managed and elicit disclosure tailored to a fund's
particular investment objectives and strategies.-[259]-
Information in the Guides and GCLs about legal
requirements (including information about fund organization
and operations), interpretive positions, and descriptions of
filing procedures would be updated and reorganized in a new
Investment Company Registration Package ("Registration
Package").-[260]- The Registration Package would be
made available to all funds and updated on a regular
basis.-[261]-
-[259]- See supra section II.A.4.
-[260]- Similar guidance currently is available in the
Investment Adviser Registration Package.
Because the Registration Package would provide
guidance on the preparation of Form N-1A, the
Guides would not be republished with Form N-1A,
and the GCLs no longer would apply. The
Commission also is proposing to rescind the
Guides Releases, supra note 255.
-[261]- The Registration Package would include
requirements discussed in the GCLs relating to
closed-end investment companies and unit
investment trusts, and other matters not
(continued...)
==========================================START OF PAGE 130======
E. Technical Rule Amendments
The Commission is proposing several technical rule
amendments, primarily to implement the recommendations of the
Commission's Task Force on Disclosure Simplification ("Task
Force") that apply to funds.-[262]- The Task Force has
recommended eliminating the cross-reference sheet requirements
in registration statements because similar information is
available in the table of contents required in the
prospectus.-[263]- To implement this recommendation
-[261]-(...continued)
relevant to Form N-1A (e.g., proxy disclosure).
Information traditionally addressed in the GCLs
would be considered when the Registration
Package is updated, unless the nature of the
information warrants immediate dissemination.
The Registration Package would serve as a "small
entity compliance guide," which the Commission
is required to publish under the Small Business
Regulatory Enforcement Fairness Act
[5 U.S.C.S. 601 note (Supp. July 1996)].
-[262]- See supra note 36 (proposing to amend rule
481(b)(1) to require a simplified cover page
legend that neither fund shares nor the
prospectus have been approved by the
Commission). DISCLOSURE SIMPLIFICATION TASK
FORCE REPORT, supra note 15, at 18.
-[263]- Disclosure Simplification Task Force Report,
supra note 15, at 90. See, e.g., rule 481(c)
[17 CFR 230.481(c)] (requiring a table of
contents in fund prospectuses). The Commission
has adopted amendments to Item 501(b) of
Regulation S-K [17 CFR 229.501(b)] to eliminate
the cross-reference sheet requirement for
companies other than funds. Securities Act
Release No. 7300 (June 14, 1996) [61 FR 30397,
30398] ("Release 7300").
==========================================START OF PAGE 131======
for funds, the proposed amendments would delete the
cross-reference sheet requirements in rules 481, 495, and 497
under the Securities Act.-[264]- The Task Force also
has recommended, and the Commission has adopted, modified
signature requirements to allow corporate issuers to include
typed, duplicated, or faxed signatures on paper filings if a
manual signature is retained by a registrant for a period of 5
years.-[265]- The proposed amendments would revise
signature requirements for funds in accordance with this
recommendation.-[266]-
F. Transition Period
If the Commission adopts the proposed amendments to Form
N-1A, the revised Form would replace current Form N-1A. The
Commission expects to provide for a transition period after
the effective date of revised Form N-1A to give funds
sufficient time to prepare their registration statements under
-[264]- 17 CFR 230.495.
-[265]- Release 7300, supra note 263, at 30400. This
change would make available to paper filers the
additional signature options currently permitted
for corporate issuers filing electronically.
-[266]- Proposed revisions to rule 8b-11
[17 CFR 270.8b-11]. The proposed amendments
also would update a Note appearing before rule
480 [17 CFR 230.480], which explains the
applicability of certain rules in Regulation C
to funds.
==========================================START OF PAGE 132======
the proposed amendments. A fund filing a new registration
statement would be required to comply with the proposed
amendments 6 months after the effective date of the
amendments. A fund with an effective registration statement
would be required to comply with the amendments at the time of
the next annual update of its registration statement, but no
later than 16 months after the effective date of the proposed
amendments. A fund also, at its option, could comply with the
revised Form at any time after the effective date of the
amendments. The Commission requests comment on the proposed
transition period.
III. GENERAL REQUEST FOR COMMENTS
The Commission requests that any interested persons submit
comments on the proposed amendments that are the subject of
this release, suggest additional changes (including changes to
related provisions of rules and forms that the Commission is
not proposing to amend), or submit comments on other matters
that might affect the proposed amendments. Commenters
suggesting alternative approaches are encouraged to submit
proposed rule or form text. For purposes of the Small
Business Regulatory Enforcement Fairness Act of 1996 [5 U.S.C.
801 et seq.], the Commission also is requesting information
regarding the potential impact of the proposed rule on the
==========================================START OF PAGE 133======
economy on an annual basis. Commenters should provide
empirical data to support their views.
IV. PAPERWORK REDUCTION ACT
The proposed Form contains "collection of information"
requirements within the meaning of the Paperwork Reduction Act
of 1995 [44 U.S.C. 3501 et seq.], and the Commission has
submitted the amendments to the Office of Management and
Budget ("OMB") for review in accordance with 44 U.S.C. 3507(d)
and 5 CFR 1320.11. The title for the collection of
information is "Form N-1A Under the Investment Company Act of
1940 and the Securities Act of 1933, Registration Statement of
Open-End Management Investment Companies."
A registration statement on Form N-1A must contain
information the Commission has determined to be necessary or
appropriate in the public interest or for the protection of
investors. The proposed amendments to Form N-1A seek to
minimize prospectus disclosure about technical, legal, and
operational matters that generally are common to all funds and
to focus disclosure on essential information about a
particular fund that would assist an investor in deciding
whether to invest in that fund.
==========================================START OF PAGE 134======
The proposed amendments would move certain disclosure
about fund organization and legal requirements under the
Investment Company Act to the SAI, simplify and clarify the
instructions for completing the Form, and improve risk
disclosure by requiring a discussion of the overall risks of
investing in a fund, a narrative risk summary, and a graphic
presentation of risk. Other technical amendments are proposed
that would not impose any additional recordkeeping or
reporting burden on funds.
The Commission estimates that there are approximately
2,700 registered open-end investment companies that file
registration statements on Form N-1A, representing
approximately 7,500 investment portfolios ("portfolios"). The
Commission estimates, based on the current number of
registration statements filed on Form N-1A, that approximately
4,649 registration statements, including post-effective
amendments, would be filed on Form N-1A annually for a total
burden of 990,000 hours. This represents a decrease of
2,205,824 hours, which is primarily to eliminate the Form N-1A
burden hour estimates related to preparing financial
statements because that burden is reflected in the burden
hours attributable to annual and semi-annual reports required
under rule 30d-1. The information collection requirements
imposed by Form N-1A are mandatory. Responses to the
collection of information will not be kept confidential. An
==========================================START OF PAGE 135======
agency may not conduct or sponsor, and a person is not
required to respond to a collection of information unless it
displays a currently valid control number.
Under 44 U.S.C. 3506(c)(2)(B), the Commission solicits
comment to: (i) evaluate whether the proposed collection of
information is necessary for the proper performance of the
functions of the Commission, including whether the information
shall have practical utility; (ii) evaluate the accuracy of
the Commission's estimate of the burden of the proposed
collection of information; (iii) enhance the quality, utility,
and clarity of the information to be collected; and
(iv) minimize the burden of collection of information on those
who are to respond, including through the use of automated
collection techniques or other forms of information
technology.
Those who want to submit comments on the collection of
information requirements should direct their comments to the
OMB, Attention: Desk Officer for the Securities and Exchange
Commission, Office of Information and Regulatory Affairs,
Washington, D.C. 20503, and also should send a copy of their
comments to Jonathan G. Katz, Secretary, Securities and
Exchange Commission, 450 5th Street, N.W., Washington, D.C.
20549-6009 with reference to File No. S7-10-97. The OMB is
required to make a decision concerning the collections of
==========================================START OF PAGE 136======
information between 30 and 60 days after publication, so a
comment to OMB is best assured of having its full effect if
the OMB receives it within 30 days of publication.
V. SUMMARY OF INITIAL REGULATORY FLEXIBILITY ANALYSIS
The Commission has prepared an Initial Regulatory
Flexibility Analysis ("Analysis") in accordance with 5 U.S.C.
603 regarding the proposed amendments to Form N-1A. The
Analysis explains that the proposed amendments would revise
disclosure requirements for fund prospectuses to minimize
prospectus disclosure about technical, legal, and operational
matters that generally are common to all funds, and to focus
prospectus disclosure on essential information about a
particular fund that would assist an investor in deciding
whether to invest in that fund. The Analysis also explains
that the proposed amendments are intended to improve fund
prospectuses and to promote more effective communication of
information about funds.
The Analysis discusses the impact of the proposed rule on
small entities, which are defined, for the purposes of the
Securities Act and the Investment Company Act, as investment
companies with net assets of $50 million or less as of the end
of the most recent fiscal year [17 CFR 230.157(b) and
270.0-10]. The Commission estimates that approximately 2,700
==========================================START OF PAGE 137======
registered open-end management investment companies are
subject to the requirements of Form N-1A and of these,
approximately 620 (23%) are investment companies that would be
small entities.
The Analysis explains that the proposed amendments would
not impose any substantial additional compliance burdens for
small entities because most of the changes do not require new
information, although, initially, the changes would require
small entities to revise their prospectuses to present the
information in the amended format. The proposed amendments
primarily would clarify and simplify the instructions for
completing Form N-1A, shift information from the prospectus to
the SAI, and require new formats for certain information. On
balance, the Commission believes that preparing and updating
the revised Form should take the same amount of time (or
possibly less time) as preparing and updating the current
Form.
As stated in the Analysis, the Commission considered
several alternatives to the amendments proposed for Form N-1A,
including, among others, establishing different compliance or
reporting requirements for small entities or exempting them
from all or part of the proposed rule. Because the amendments
to Form N-1A are intended to improve prospectus disclosure for
all investors, whether they invest in funds that are small
==========================================START OF PAGE 138======
entities or others, the Commission believes that separate
treatment for small entities is inconsistent with the
protection of investors.
The Commission encourages the submission of comments on
the Analysis, including specific comment on (i) the number of
small entities that would be affected by the proposed
amendments and (ii) the discussion of the impact of the
proposed amendments on small entities. Comments will be
considered in the preparation of the Final Regulatory
Flexibility Analysis if the proposed amendments are adopted.
You may obtain a copy of the Analysis from John M. Ganley,
Senior Counsel, Securities and Exchange Commission, 450 5th
Street, N.W., Mail Stop 10-2, Washington, D.C. 20549-6009.
VI. STATUTORY AUTHORITY
The amendments to the Commission's rules and forms are
being proposed pursuant to sections 5, 7, 8, 10 and 19(a) of
the Securities Act [15 U.S.C. 77e, 77g, 77h, 77j, and 77s(a)],
and sections 8, 22, 24(g), 30 and 38 of the Investment Company
Act [15 U.S.C. 80a-8, 80a-22, 80a-24(g), 80a-29, and 80a-37].
The authority citations for the amendments to the rules
precede the text of the amendments.
==========================================START OF PAGE 139======
VII. TEXT OF PROPOSED AMENDMENTS
List of Subjects in 17 CFR Parts 230, 239, 270 and 274
Advertising, Investment companies, Reporting and
recordkeeping requirements, Securities.
For the reasons set out in the preamble, the Commission
proposes to amend Chapter II, Title 17 of the Code of Federal
Regulations as follows:
PART 230--GENERAL RULES AND REGULATIONS, SECURITIES ACT OF
1933
1. The authority citation for Part 230 is revised to read
in part as follows:
AUTHORITY: 15 U.S.C. 77b, 77f, 77g, 77h, 77j, 77s, 77sss,
78c, 78d, 78l, 78m, 78n, 78o, 78w, 78ll(d), 78t, 80a-8, 80a-
24, 80a-29, 80a-30, and 80a-37, unless otherwise noted.
* * * * *
2. Revise the note immediately preceding 230.480 to read
as follows:
==========================================START OF PAGE 140======
NOTE: The rules in this section of Regulation C (
230.480 to 230.488 and 230.495 to 230.498) apply only to
investment companies and business development companies.
Section 230.489 applies to certain entities excepted from the
definition of investment company by rules under the Investment
Company Act of 1940. The rules in the rest of Regulation C
( 230.400 to 230.479 and 230.490 to 230.494), unless the
context specifically indicates otherwise, also apply to
investment companies and business development companies. See
230.400.
3. Amend 230.481 to revise the section heading and
paragraphs (a) and (b)(1) to read as follows:
230.481 Information required in prospectuses.
* * * * *
(a) The facing page of every registration statement must
indicate the approximate date of proposed sale to the public.
(b) * * *
(1) Disclosure in a legend that indicates that the
Commission has not approved the securities or passed upon the
==========================================START OF PAGE 141======
adequacy of disclosure in the prospectus and that any
representation to the contrary is a criminal offense. The
legend may be in one of the following formats or other clear
and concise language:
"The Securities and Exchange Commission has not approved
or disapproved these securities or passed upon the
adequacy of this prospectus. Any representation to the
contrary is a criminal offense."; or
"The Securities and Exchange Commission has not approved
or disapproved these securities or determined if this
prospectus is truthful or complete. Any representation to
the contrary is a criminal offense."; and
* * * * *
4. Amend 230.485 to revise paragraph (b)(1)(iv) to read
as follows:
230.485 Effective date of post-effective amendments filed by
certain registered investment companies.
* * * * *
(b) * * *
(1) * * *
==========================================START OF PAGE 142======
(iv) Filing financial statements after the effective date
of the registration statement under Item 22(a)(2) of Form N-1A
(17 CFR 239.15A or 274.11A);
* * * * *
5. Amend 230.495 to remove the words "cross-reference
sheet;" from paragraph (a).
6. Amend 230.497 to remove the words ", together with 5
copies of a cross reference sheet similar to that previously
filed, if changed" from paragraph (d) and ", together with
five copies of a cross-reference sheet similar to that
previously filed, if changed" from paragraph (e).
PART 270--RULES AND REGULATIONS, INVESTMENT COMPANY ACT OF
1940
7. The authority citation for part 270 continues to read,
in part, as follows:
AUTHORITY: 15 U.S.C. 80a-1 et seq., 80a-37, 80a-39 unless
otherwise noted;
==========================================START OF PAGE 143======
* * * * *
8. Amend 270.8b-11 to remove the word "manually" from
paragraph (c) and to revise paragraph (e) to read as follows:
270.8b-11 Number of copies; signatures; binding.
* * * * *
(e) Signatures. Where the Act or the rules thereunder,
including paragraph (c) of this section, require a document
filed with or furnished to the Commission to be signed, the
document should be manually signed, or signed using either
typed signatures or duplicated or facsimile versions of manual
signatures. When typed, duplicated or facsimile signatures
are used, each signatory to the filing shall manually sign a
signature page or other document authenticating,
acknowledging, or otherwise adopting his or her signature that
appears in the filing. Execute each such document before or
at the time the filing is made and retain for a period of five
years. Upon request, the registrant shall furnish to the
Commission or its staff a copy of any or all documents
retained pursuant to this section.
PART 239--FORMS PRESCRIBED UNDER THE SECURITIES ACT OF 1933
==========================================START OF PAGE 144======
9. The authority citation for Part 239 is revised to read,
in part, as follows:
AUTHORITY: 15 U.S.C. 77f, 77g, 77h, 77j, 77s, 77sss, 78c,
78l, 78m, 78n, 78o(d), 78w(a), 78ll(d), 79e, 79f, 79g, 79j,
79l, 79m, 79n, 79q, 79t, 80a-8, 80a-24, 80a-29, 80a-30 and
80a-37, unless otherwise noted.
* * * * *
PART 274--FORMS PRESCRIBED UNDER THE INVESTMENT COMPANY ACT OF
1940
10. The authority citation for Part 274 continues to
read as follows:
AUTHORITY: 15 U.S.C. 77f, 77g, 77h, 77j, 77s, 78c(b),
78l, 78m, 78n, 78o(d), 80a-8, 80a-24, and 80a-29, unless
otherwise noted.
11. Revise Form N-1A (referenced in 239.15A and
274.11A) (including the Guidelines to the Form) to read as
follows:
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Note: The text of Form N-1A does not and this amendment
will not appear in the Code of Federal Regulations.